Are women more honest than men?

The journal Science recently published a fascinating article from Alain Cohn et al, which looked at cultural proclivities for civic honesty around the globe. They employed a rather ingenious method: they “lost” wallets all over the world and recorded when the receiver of the lost wallet attempted to return the wallet to its rightful owner. The wallets were fake and included a false ID of a person who appeared to be local to the country in which the wallet was lost, including fake contact info that actually belonged to the researchers. The ingenious element of the research was that instead of leaving the wallet out in the open, the research assistants actually pretended to have found the wallets in our nearby local businesses and turned in the wallet to somebody working in that business, thus enabling them to record interesting ancillary data on the “subject,” such as their age, if they had a computer on their desk, and whether or not the person was local to the country. Clearly, the researchers were hoping to engage in a little bit of data mining to ensure their not insignificant efforts returned some publishable results regardless of the main outcome.

As it turns out, they needn’t have been concerned. The level of civic honesty, as measured by wallet return rates, varied significantly between cultures. In addition, there is an interesting effect where the likelihood of the wallet being returned increased if there was more money in it, an effect that persists across regions and which was evidently not predicted by most economists. I encourage you to read the original article, which is fascinating. On the top end of the civic honesty scale are the Scandinavian and Northern European countries, with rates at around 75%. On the bottom end of the curve is China, with about 14%. In the case of China, all the study did was confirm what anybody who does business there knows, and something that has been well covered by journalists and completely ignored by our politicians: to the Chinese, not cheating is a sign you’re not trying hard enough.

Here’s where things get interesting: in keeping with modern scientific publishing standards, the researchers made their entire dataset available in an online data repository so that others could reproduce their work. There are a lot of interesting conclusions one can make beyond what the authors were willing to point out in their paper, perhaps due to the political implications and the difficulty of doing a proper accounting for all the possible biases. However, unburdened by the constraints of an academic career in the social sciences, I was more than happy to dig into the data to see what it could turn up…

Perhaps the most interesting thing I found is that women appear to be more honest than men. Over the entire world-wide dataset, women returned the wallets about 51% of the time, versus 42% for men. It is tempting to look at individual countries, but the male versus female difference is not statistically significant enough when looking at individual countries, so I chose to only look at the aggregate data. The data is not weighted by country population, so one should take the absolute magnitude of the difference with a bit of skepticism. However, looking at the individual country data it appears a proper accounting for population bias would likely maintain or increase the difference. (Some of the most populous countries had the largest difference between women and men.)

Worldwide, women appear to be statistically significantly more honest than men. Standard error was less than 1% for both cases.

Here is the full dataset of men versus women broken down by country. You can see that the most populous countries are those where women appear to be more honest than men, so fixing the chart above to account for sample bias would likely still find a significant difference.

Women appear to be more honest than men in most cultures, though the individual country results are not usually statistically significant.

Another interesting question to ask of the data is whether or not there is a generational difference in honesty. Surprisingly, the answer turns out to be that there’s not a statistically significant difference:

Age doesn’t appear to be a statistically significant predictor of honesty. Standard error was roughly 1%, so the difference shown is not meaningful.

Looking at the breakdown by country, we see that there are no big differences between the generations, with one exception that I’m not even going to try to explain:

It’s possible that the young are more honest than the old, but it doesn’t appear to be statistically significant except in one country.

One interesting set of issues that always comes up with population studies like this is what, if anything, should we do with this information? It is true that a Swedish woman is about eight times more civically honest, on average, than a Chinese man. That’s interesting, but also pretty dangerous information. Should this inform our immigration policy, where population statistics might actually be valid? Is it better to not even ask these questions given the abuse of the information that might result? Or, is it good to have this information, especially when it flies in the face of our image of ourselves and others? I suspect in the case of the US, most would be surprised to find out that the average US citizen is as honest as the average Russian. We may be surprised by both halves of that statement, and both might be good to think about.

Is technical analysis and algorithmic trading a legal form of market collusion?

Despite all dictates of logic against it, technical analysis actually works some of the time. I’m not talking about the random luck of any scheme working, but the fact that an uncanny amount of the time, “support” and “resistance” theories seem to be borne out in actual stock data. Assuming I’m not just imagining this, the obvious answer as to why is that it’s a self-fulfilling prophesy. If enough people believe in technical analysis, the patterns inherent to its doctrine will occur because the market is just composed of humans and their beliefs. It’s no more odd than the fact that stocks go up when earnings go up, except that belief at least has some basis in fact. The point is, having a basis in fact is irrelevant to the market.

Also obvious, however, is that when a stock pattern really works, it will draw attention to itself and it will stop working as people try to capitalize on it. Thus, while it may be a self-fulling prophesy that technical analysis will work, the same logic suggests that it should also fail, on average, because the market is mostly a zero-sum game. So, what gives?

It occurred to me that we are missing one vital factor: there are a lot of people who think technical analysis is utter bullshit. Ironically, if enough people think it’s bullshit, it just may work. It then dawned on me what technical analysis may really be and why it might actually work: a legal form of market collusion.

Technical analysis may work out to be a somewhat effective form of conspiracy among a subset of the market participants. The rules of TA are essentially a language, allowing adherents of the art to manipulate the stock market through mass distributed collusion. I think it is entirely possible that the “rules” of technical analysis are successful because they manipulate the market in a way that gives an advantage to adherents of those rules relative to those who don’t.

The net effect is that a group of people in the market cause prices to oscillate by all “colluding” to buy and sell at certain points. Another group of people then end up making trades at what the other half know to be the “wrong times” in a predictable cycle. The common rules of TA form a system of collusion that doesn’t require any back channel conversation between participants, and thus it is completely legal; the market itself is the channel through which the mass collusion occurs. The general disregard among academics for the possibility that TA could work results in a situation where there are always enough market participants who aren’t in on the game so that the game works. In fact, perhaps the best thing that ever happened for TA was the publication of “A Random Walk Down Wall Street.”

Does the world really need MBAs?

A few weeks ago I was sitting in a coffee shop writing my thesis. Next to me were two students from Harvard’s Business School, that esteemed institution responsible for many of the managers who have been doing such a bang up job of running our nation’s financial system. They were going over a case for one of their classes, and from listening to them struggle with simple math, it was apparent that those two, who are at the best business school in the country, probably wouldn’t have lasted a minute in any graduate program in the hard sciences.

To begin with, I am skeptical of the very idea of having a management class that swoops in from their MBA school, sans real world experience, to manage companies. It seems to me it would make more sense to pick management from people inside a business who have demonstrated understanding and ability of the unique aspects of that industry.

From my admittedly distant vantage point, business school seems to train people not to truly lead, but to be the quickest in following the herd. Instead of giving us managers who learn a business and find ways to improve its product, it gives us a bunch of jar scrapers who do little of sustance but simply find increasingly clever ways to fool people into paying more for less using the latest management fad. You leverage your customer base into a value-added service relationship, or you outsource non-core competencies, or synergize across divisions, etc. Anything to goose the next quarter earnings growth. You put Snickers bars near the check out at Kinkos, but god forbid do you actually innovate and create something of unique, sustainable value.

Of course, you can’t expect them to do that, because true leadership isn’t something you pick up in a seminar, and acquiring the skills to really innovate in a meaningful way requires a tough slog through an actual technical education. Don’t get me wrong, I have tremendous respect for good managers, having worked under a few. But it can’t be taught in a class. Worse, the concept of business school means that our leadership class is an entirely self-selected group. Leadership should be a position that is earned, not self-anointed by one’s choice of graduate school.

In fact, give some thought to what kind of person even thinks it possible to become a valuable leader with two years of night school, and you begin to understand why corporate America is the fix it’s in. It’s no surprise so many of them cut corners ethically and focus on short term results at the expense of true sustainable value. When I was applying to grad school, I looked at the statistics of the GRE scores by major. Business majors scored lower than everybody; lower on Math than English majors, and lower on Verbal than Engineers. It seems the only qualification one has to have for leading people in corporate America is an inability to do much else.

This kind of pseudo leadership is epitomized by the well-documented decline of Hewlett-Packard under the erstwhile tenure of Carly Fiorina. This once great innovator that gave us the first handheld calculator was morphed into a company that sells cheap plastic printers at cost so that they can gouge consumers with ink at 1000% profit margins. Short term, that works as a way to make money. Long term, HP is never going to invent anything again, because after all the short-sighted cost cutting, their research labs are essentially defunct. Of course, a marketing consulting firm was probably paid hundreds of thousands of dollars to come up with their “invent” slogan. The management class has no sense of their own self-created irony.

Like HP, many once great American businesses are essentially management consulting companies that happen to have inherited some intellectual property. Far out product development funding is decimated, and what remains is for management to scrape the bottom of the jar with marketing tactics, outsourcing, and whatever trivial refinements are allowed by their skeleton R&D departments. Looking naively at corporate profit growth in the US, the MBAs seem to be vindicated, but this growth has been illusory. They call it transforming America to a knowledge-based economy. I call it burning the furniture to heat the house. How much longer can we grow by shrinking?

Given the ubiquity of MBAs, it’s easy to forget that the very concept of business school didn’t come about until the early 20th century, and it didn’t take off until after the war. We managed, as a country, to produce some of the world’s greatest industrial achievements without the aid of MBAs. We built a transcontinental railroad, gave the world aviation, invented the automobile industry and modern assembly line manufacturing, all without a single business school graduate around to synergize or value-add anything.

I believe history will show that the concept of management school, and the notion of a management class that is self-selected by career choice and not demonstrated ability in a field, is a major failure. Maybe it’s time to rethink our pipeline for corporate management.

Obviously, any time one is talking about an entire group consisting of hundreds of thousands of people, you’re talking in approximations and on the average. Some of the great leaders I’ve met that I alluded to above actually had MBAs. My point is that they are great leaders not because they have MBAs, but because of their experiences and inclinations. In fact, the people I know who I respect the most with MBAs have very little respect themselves for the degree, which is where much of my skepticism about the degree originates.

Why unions tend towards self-destruction

As pointed out by Mish Shedlock, the public MTA union has brokered an 11% pay increase while municipalities across the country struggle to make ends meet. The callous disregard of public unions for their taxpaying “employers” is highlighted in this article by the candid comments of an Albany police union chief, who stated for the record that “If I’m the bad guy to the average citizen… and their taxes have go up to cover my raise, I’m very sorry about that, but I have to look out for myself and my membership.”

Given that most local and state government budgets are complete disasters, the only possible result of such union intransigence is massive layoffs. It’s already happening, in fact, as municipalities all over cut back on police and fire budgets. Some towns have even shuttered their police departments, relying on county sheriffs for protection.

Plot illustrating the steady decline in union membership over the past several decades.

It’s pretty clear that unions, far from providing job security to their members, more often price their members out of a job. One need only look at the massive decline in American union membership (see the included figure) to see proof of this. Union bosses get rich at the expense of the junior members, whose jobs are cut. But how is this possible? How can union presidents continue to get elected despite the fact that they are clearly pricing their members out of existence?

The answer, I think, is that unions are inherently self-destructing because of a survivorship bias in their member voting, exacerbated by union domination of the labor prices in certain fields. When union jobs are lost, those who are fired are likely to seek employment in other fields, as unions do everything they can to ensure that when a job is priced out of existence at one firm, it is priced out of existence at all firms. That’s why there are three (for now) US auto companies but only one union. If companies do it, it’s called price fixing. If labor does it, it’s called the United Autoworkers Union.

Intuitively, one would expect that any union boss so arrogant as to insist on pay raises unaffordable by the employer would get voted out by union members. However, if you lose your job you’re probably not going to sit around paying union dues, you’ll probably going to start looking into a lateral move into another trade. Or you might just give up looking for work or retire early. The point is this: the people who continue voting for the status quo union leadership are, by definition, those who have benefitted from union membership, not the millions of workers who have had to leave their chosen profession due to the union destroying their jobs.

Imagine a hospital which has such poor medical care that anybody who has more than a cold dies, but whose cafeteria serves fillet for every meal. Customer surveys of this hospital would be nearly unanimously positive; all the people who leave the hospital will have had a great time, but the corpses can’t complain. This pretty much describes what is happening at unions.

It’s a buyer’s market for greater fools

If there’s one thing we’ve learned from the financial crash, it’s that the efficient market hypothesis is utterly bogus. As a corollary, just as dead is the idea of buy-and-hold investing as a rational way to make money. Stock market results from Japan over the past two decades, and now America and Europe, are making it increasingly clear that the relatively steady returns of the last century were an anomaly begetting complacency.

Moreover, I’d especially be wary of long term investing in an environment with nearly 10% unemployment and an economy entirely propped up by war-level deficit spending when (a) there is no war and (b) we already have more debt* than the entire private wealth of the country. The financial system crashed because we had unsustainable levels of credit being issued, pulling future demand forward in a way that had to end sometime. So, what did we do? We simply pulled demand forward by using a bigger lever, the United States Federal Government. When debt levels became untenable for individuals and corporations, we simply shifted them to the government, an entity with a higher credit rating by dint of its ability to steal with impunity to pay its bills. But that’s the end of the line, folks, and even the US government has its (credit) limits. At the end of day, to paraphrase Charlton Heston, it’s all just people. The day of reckoning is drawing near, as the Chinese have made clear, and it won’t be pretty. I’m not predicting apocalypse, just extended tough times as we finally have to start paying the liquor bill for the long party.

So, if buy-and-hold is out, should you trade the market short term? Well, unless you’re a investment bank like Goldman Sachs, with the ability to access privileged order flow information and front run trades, you’d also have to be insane to try it. At this point, our stock markets are a farce, a rigged game for the benefit of a few elite financial firms. Spreads are huge, and people are getting scalped right and left by manipulation and high frequency computer trading games.

I’ve always looked with skepticism at the stock market. It’s a giant zero-sum game, for the most part, since dividends and stock buybacks have largely disappeared. Despite all the pumping of the market as a way to make wealth, it’s a mathematical fact that the stock market is essentially just a mechanism for transferring money between people and institutions. But lately, it’s also an empirical fact that it’s largely a way for money to be moved into Goldman Sachs’ trading accounts.

The stock market has become a Persian bazaar, and yet another example of the hubris and unchecked greed of Wall Street. It’s time the average person says “enough is enough” and quits playing. The only way Wall Street will get the message is if enough of us decide to quit being patsies, and leave the market. The truth is, your broker doesn’t care if you make money. They don’t offer their stock advice or “trading tools” because they give a damn about helping you. You’re the trading tool. They know, by definition, that their customers will lose money on average by taking their advice (it’s a negative sum game when you factor in commissions, even before considering that it’s a rigged game). They just need you to play the game, because the only way Wall Street stays alive is by skimming from the streams of money flowing through it.

If you haven’t thought about it yet, just ask yourself where money goes when it “goes into the market.” In truth it just goes from one person’s cash account into another’s. There is no such thing as money “in the market” or “on the sidelines.” It would be just as ridiculous to talk about money being tied up “in oranges” when people buy produce. Money is always going from one bank account to another. The market is just a way to transfer money and shares, and rather than money “moving in” from the sidelines it’s really more accurate to say that at any given point, dumb money is moving in or out of the market in the opposite direction of smart money. If you’re a short term trader, you have to wonder if you’re on the right side of this transfer if you don’t have access to a thousand CPU cluster computer center and direct exchange connections. If you’re a long term investor, you have to wonder if you’re on the right side of this transfer when you see investment banks make bets with their own money in exact opposition to what their retail research advises.

I know you might miss the fun of trading stocks, but consider taking up gambling on sports, instead. At least it’s a fair game.

(*including government entitlement promises as debt)

Why does volume mean one thing in housing and another in stocks?

Housing numbers were just released, and the big news is that home sales were up 11% from the last month. That’s 11% up in volume, not price. Prices are still abysmal on a relative basis, down 12% from this time last year (and yet still too high, if you ask me). There are more foreclosures in process in California than home sales in the entire nation. However, everybody says this spike in volume is great news, and a sign the housing market is turning around.

But isn’t it true that if the stock market goes down on higher than expected volume, these same experts will call that a sign of great weakness for the equities market and a harbinger of doom?

Can somebody tell me how it is that rising volume with falling prices is terrible when it happens in the stock market but it’s an unmitigated positive when it happens in the housing market? My current guess is that they are wrong in both cases, and that you can’t glean much predictive value from volume in any market.

Inflating with taxes?

In the latest consumer price index (CPI) report, all seems fine. Core CPI went up 0.1%, suggesting the Fed is succeeding at holding back the evil specter of deflation, which brought down the economy during the Great Depression. But a closer look at the numbers reveals that were it not for the government imposing a huge tax increase on cigarettes, we would’ve had price deflation:

WASHINGTON (MarketWatch) – Falling energy prices offset another big jump in cigarette prices in April, leaving the U.S. consumer price index flat for the month, the Labor Department reported Friday.

With energy prices down 20% since April 2008, the CPI has fallen 0.7% in the past 12 months, the largest decline since 1955. The decline in the consumer price index has sparked concerns at the Federal Reserve and among economists about deflation taking hold in the United States.

However, core inflation – which excludes volatile food and energy prices – has not declined and in fact has accelerated in the past four months, rising 0.3% in April, the biggest increase since July.

The core CPI was boosted in April by a 9.3% increase in tobacco prices as a new federal excise tax to pay for children’s health care kicked in.

Excluding tobacco, the CPI fell 0.1% in April and the core CPI rose 0.1%.

“Inflation is behaving very nicely,” said Bill Hampel, chief economist for the Credit Union National Association. The report was “further evidence that deflation is not going to happen.”

Maybe I’m too cynical, but when the difference between inflation and deflation is a government tax, you have to wonder about the timing of that tax and if there weren’t ancillary motivations behind it.

E*TRADE to liquidate all proprietary mutual funds this week to raise capital

E*TRADE just sent a letter out to all mutual fund holders to the effect that they will be liquidating their entire family of index mutual funds this week. All funds will be cashed out by Friday:

After long and serious consideration, E*TRADE Securities has made the decision to discontinue our family of proprietary index mutual funds.

As a result, the E*TRADE S&P 500 (ETSPX), Russell 2000 (ETRUX), Technology (ETTIX), and International (ETINX) Index Funds will be liquidated on a date no later than March 27, 2009 (the “Liquidation Date”).

Of course, even though we are discontinuing these funds, as an E*TRADE customer, you have access to over 7,000 funds to help you find the right alternative.

Here are a few important points to keep in mind:

Effective as of the close of business on February 23, 2009, no purchases of the funds may be made and any applicable redemption fees or account fees charged by the funds will be waived.

If you do not redeem your shares yourself, your shares will be automatically converted to cash equal to their net asset value on the Liquidation Date. You will receive proceeds equal to the net asset value of the shares you held on the Liquidation Date after provision for all charges, expenses, and liabilities of the fund.

The redemption is treated as a taxable transaction, and you will have to pay taxes on the proceeds of the liquidation, even if your shares are automatically redeemed on the Liquidation Date.

Please be assured that this decision has nothing at all to do with the financial health of E*TRADE FINANCIAL, which has been, and continues to be, very well capitalized by every applicable regulatory standard.

I especially like the last sentence. Only a financial industry CEO could lie so effortlessly. If they are so well capitalized, why are they applying for TARP funds? Why are they liquidating their mutual funds out from under their customers, instead of just selling the business? I suspect they need the cash to cover withdrawals. There may be a run on E*TRADE going on.

Fortunately, E*TRADE’s funds don’t have a lot of money under management. Only about half a billion dollars worth of stocks will be unloaded on the market this week, by my quick estimate. However, this might be a harbinger of ill things to come, if other financial institutions start to see liquidating their proprietary mutual funds as a way to raise capital.

On the bright side, at least nobody will be forced to take a short term capital gain…

The other other shoe to drop: big government in-the-loop?

This depression is historic in many ways, but one way that doesn’t get talked about a lot is that it’s the first time America has had a credit-based downturn with a government that is a major existing factor in the economy. Before the Great Depression, in the 1920s, government spending at all levels was around 15% of personal income. Today, it’s close to 50%. Sure, government spending shot up under FDR, but the point is it shot up from virtually nothing. What happens when you hit a depression when government spending is already over one third of GDP before the depression?

Tax receipts projection
Tax receipts projections.

So, we have this situation where there is a huge economic entity that is about to see its income drop precipitously, as tax revenues fall off a cliff. Whether by spending cuts or inflationary printing, future real government contributions to the economy are going to have to decline. It’s easy to forget, but the government doesn’t actually make anything. Whatever money they spend either comes from the present or the future or from inflating the currency, but either way it is a hole that has to be filled sometime. Due to the large delay between the effects of a downturn and government spending, this will take a while to play out, and it’s a huge overhanging issue that has yet to completely hit the proverbial fan.

Here’s the thing that scares me about all of this: one of the tenets of control theory is that having a strong feedback loop with a large delay in any system is a good recipe for instability, and yet that’s exactly what we have when the government becomes such a large factor in the economy. Of course, an economy is not a model system, and it could never experience runaway instability like a linear circuit could. But if there are forces pushing it towards instability, I’d argue the result may not be exponentially growing oscillations, but it won’t be good. Humans don’t like unstable systems, especially when their money is involved, and rather than suffer oscillations, I suspect the economy would just fall and stay down.

Why hasn’t this happened before? Well, one likely possibility is that I’m completely out of my mind to be applying principles of control theory to the national economy. But another is that we’ve simply never tied this big of a feedback loop around our economy before. The last time we had a credit dislocation, perhaps government was small enough that these oscillations were damped. But the gain is way up, now, and I’m a little nervous to see what happens now that the system has been given a big kick.

Investment gains may become harder to find, long or short.

I had an interesting discussion with some folks last night. The question was whether it is possible for all investments to go down in the short term if things get bad enough. One conclusion was that it’s a harder question to answer than you might think. Do you consider perceived value, or just market price? If you buy a farm, and the market collapses for real estate, that farm might still be the best thing you’ve ever bought (high value), even if the price plummets. So, while the general question is interesting philosophically, it quickly unravels into a debate on definitions, so I’ll just limit the discussion to what people normally think of as investments: things you can hold in a brokerage account.

My theory is that it is certainly possible for every conceivable investment to lose value, where no matter if you’re short or long you lose money. Just consider the absurd case where everybody becomes clinically depressed agoraphobics, sitting at home wasting away. Clearly, financial markets will freeze, and you’ll find out that your assumptions on value were predicated on the Wall Street showing up to work, the computers which record your trades running, and people holding out enough hope in the future to bother trading anything but cigarettes. Every asset, no matter what, has some finite counterparty risk. You may be right about everything, but the universe doesn’t owe you a bid. There probably weren’t a lot of good places to put your retirement funds during the declining Roman Empire, for example.

Granted, total collapse of financial market functioning is a rather extreme, and seemingly academic, case to consider. But as I thought about it a bit more after the discussion, I realized that this isn’t academic at all. Between fully liquid bull markets, where everybody makes money (on paper) and the macabre situation I posited above, is a continuum of completely plausible scenarios where it gets harder and harder to make money in any asset. In fact, this is already happening right now.

Bid-ask spreads on options have been widening in the past few months, which makes it harder to hedge either direction as liquidity dries up. While derivative markets are zero sum if you average out to expiration, in the short term both parties can have losses on paper due to wide spreads, and if you can’t close your short option position, you are forced to tie up cash as collateral, which could cause you to lose money. Thus, in a way both parties to an option contract can lose out if liquidity dries up.

Certain stocks are becoming impossible to short (nobody is willing to loan out any more shares). Others (such as Sears) are starting to require short holders to pay interest. It’s quite likely for somebody to go long Sears, somebody else to go short at the same time, and for both people to lose money.

Is this discussion of any practical value? I think so: if the market continues to deteriorate, even those that correctly predict it will have trouble making money from it. For example, it will become increasingly difficult to make money in inverse ETFs, no matter how brilliantly you predict the underlying stock market trends. The counterparties to the derivatives owned by the ETF will become so adverse to risk that they will insist upon prices which are less and less favorable for the ETF. This will manifest as extreme slippage in the ETF relative to the index it inversely tracks. Again, this is already happening. Consider the following plot of SKF versus the Dow Financials Index, which it is supposed to track the inverse of times two:

FXK: How to lose money both long and short.
SKF (green) versus Dow Financials (black): How to lose money both long and short.

The underlying index went down about 25%, but so did the ETF (there were no distributions from SKF in this time frame). Everybody lost money, long or short! Some slippage is inevitable as a “cost” of leverage and shorting, but my point is that the slippage is getting worse. Six months ago SKF was tracking much closer to its target. It might be useful to consider an index of inverse ETF slippage as an indicator of the health of the financial markets, or at the very least a index of how crazy you’d have to be to remain in the market. So, the ETF slippage, the option spreads, tight short supply: they might all be subtle hints from the market that the market is no place to be right now, long or short.