

Once-In-a-3B-year Statistical Move – Jamie Dimon on the US Bond Market - cstanley
http://www.businessinsider.com/jamie-dimon-on-the-bond-flash-crash-2015-4

======
minimax
This is classic Business Insider. They explicitly ignore the context and try
to shake you up with a cherry picked quote. Jamie Dimon doesn't think, and
doesn't want his reader to think, that October 15th was a once in a 3B year
move. Specifically, in the letter, Jamie Dimon 1) never uses the term "flash
crash" and 2) spends the previous five paragraphs explaining exactly how and
why liquidity dynamics in the fixed income markets have changed.

What he is saying is that the Oct 15th move looks really strange, but not if
you actually understand how fixed income market makers are reacting to the
Volker rule. Quoting Dimon:

 _For instance, the total inventory of Treasuries readily available to market-
makers today is $1.7 trillion, down from $2.7 trillion at its peak in 2007.
Meanwhile, the Treasury market is $12.5 trillion; it was $4.4 trillion in
2007._

What he's saying is that market makers have smaller inventories on absolute
terms, and much smaller inventories on relative terms, so when multiple big
market participants try to move in the same direction at the same time, there
is much less inventory available to soak up demand.

~~~
nashequilibrium
Come on, every finance guy knows to cut off tail risk, yet they still don't.
Look at LTCM, with all the brains they had still didn't cut off tail risk and
Meriwether still came back and got burnt again. Look at Victor Niederhoffer,
got burnt twice the exact same way not cutting off tail risk. Then you get a
guy like Taleb profiting off tail risk. Complaining about liquidity crunches
does not count as its one of the main parts of the tail risk.

~~~
encoderer
What you're talking about is a hedge. Hedges are expensive. A better strategy
to a lot of investors is to "hedge" by trading smaller. Of course the
spectacular failures you name were spectacular because they weren't hedged and
were done with immense leverage. There is no way looking forward to predict if
a hedge that eats 1/2 your returns every year is a better investment than just
taking a catastrophic loss every several years. And it's not as simple as
taking a 50% haircut on every trade: in reality maintaining a hedge will turn
many of your small winners into losers.

I personally guard against the prospect both by staying small (trading with
only a small portion of my total account) and by maintaining net short deltas
(beta-weighted). Keeping short deltas in a bull market with upward drift also
has a cost, but it lets me sleep easier at night.

~~~
nashequilibrium
Bottom line, mean reversion strategies will bite you in the ass at some point.

~~~
encoderer
I think it's clear that price isn't mean reverting. Vol, on the other hand, I
think is.

------
carsongross
Dunno guys, when six-sigma events keep happening every seven or eight years,
maybe it's time to reconsider a normal distribution as our go-to model.

~~~
sago
I agree.

Normal distribution, arrived at via the central limit theorem, assume that the
underlying distributions are independent. They may well approximate
independence most of the time, but when extreme events happen, the
distributions are correlated, the CLT doesn't apply (not in the simple way it
is normally presented), and the overall result is most definitely not normally
distributed.

Normal distribution is a terrible model for estimating risk.

The quote isn't the first to confuse bad statistics with some inherent
weakness in statistics. Black Swan was a worldwide bestseller based on the
same canard.

~~~
x0x0
but if you stop assuming processes are iid Normal, the math gets somewhere
between hard and very hard

------
aliston
Wall Street has historically underestimated tail risk. I'm curious under what
model this is a "once in 3 billion years" sort of move. Basically, financial
markets don't behave as a normal distribution, and black swans are a lot more
likely than their 7-sigma probabilities would suggest.

------
liquidise
> of course, this should make you question statistics to begin with

This doesn't make me question statistics at all. What it does do is further my
belief that those doing financial forecasting have the same issues as
meteorologists: incomplete models.

------
buckie
This is not at all surprising. Statistics isn't the right tool for financial
analysis... it's just the best tool that we have. Incredibly unlikely
statistical events happen all the time in finance.

A great read on an alternative view on the topic of using statistics for
finance is The (Mis)Behavior of Markets by Benoit Mandlebrot [1]. It's very
well written, basic enough for most to comprehend and first book on finance I
read in college (before I went on to major in finance + math).

The aforementioned book has some very interesting notions with Trading Time
being my favorite. Basically one can near-perfectly "forge" financial data
with fractal objects called "financial cartoons" [2]. The objects are composed
to two distinct fractals - one for price vs trading time and another for
trading time vs clock time [3]. The latter rescales the volatility seen
former, either compressing or expanding it. Rescaling volatility isn't a new
idea, but it was a parallel "discovery".

There has been some work on figuring out how to use Fractal Geometry to
analyze financial time series data but it's still in its infancy. The problem
is figuring out how to transform the data into the fractals domain + figuring
out what the results from a fractal based analysis would mean for forecasting
future events. I've been working on these problems for many years (in earnest
in college and as a hobby thereafter) but made little true progress.

[1] [http://www.amazon.com/The-Misbehavior-Markets-Financial-
Turb...](http://www.amazon.com/The-Misbehavior-Markets-Financial-
Turbulence/dp/0465043577)

[2]
[http://classes.yale.edu/fractals/randfrac/Market/Fake/Fake.h...](http://classes.yale.edu/fractals/randfrac/Market/Fake/Fake.html)

[3]
[http://classes.yale.edu/fractals/randfrac/Market/TradingTime...](http://classes.yale.edu/fractals/randfrac/Market/TradingTime/TradingTime.html)

~~~
spitfire
Read Mandelbrot's book, it's an excellent gateway drug into that type of
thinking.

> There has been some work on figuring out how to use Fractal Geometry to
> analyze financial time series data but it's still in its infancy.

Are you talking about things like the hurst exponent and such?

~~~
eruditely
> Modeling extremal events

[http://www.amazon.com/dp/3540609318/?tag=googhydr-20&hvadid=...](http://www.amazon.com/dp/3540609318/?tag=googhydr-20&hvadid=39534863222&hvpos=1t1&hvexid=&hvnetw=g&hvrand=13475283605991488718&hvpone=76.24&hvptwo=&hvqmt=b&hvdev=c&ref=pd_sl_7l4nyly3gm_b)

------
fitzwatermellow
I suppose that means the Swissie unpegging from the Euro qualifies as a once-
in-six-trillion-year event ;)

Could any of the experienced traders on here offer some insight into taking
advantage of the upcoming volatility in intra-day Treasuries price-action? Is
it mostly done via TY futures and options or are some of the directional,
leveraged ETFs (e.g. $TYO) also attractive? Or are indirect strategies
preferable?

~~~
encoderer
Unless your timeframe is strictly intraday, I'd avoid the ETFs. In most cases
the futures are trading in _backwardation_ which just means that next months
futures contract is more expensive than this months. So when they do the roll
every month there's a slight drag. This is the problem with leveraged ETFs but
also a number of popular non-leveraged stocks like USO and UNG.

I'm curious why you think there will be an increase in upcoming volatility
intraday?

My opinion as a trader is: markets are random, scalping/daytrading is a hard
(some would say impossible) way to make a living. I like to trade options
because there are more ways to win. I can collect theta (time) decay even if
the price stays fixed.

If for example you think bond yields will increase, then you're bearish on the
bond market, so that view could be expressed by buying a calendar spread... eg
in $TLT, sell the May $130 put and buy the July $130 put. The goal is that the
May put decays in value while the long-dated put decays more slowly. Increased
volatility will have an outsized effect on your long July option. You can do
that trade for $192 per 1-lot.

But to be clear, that's very different than scalping in and out of a position
intraday.

------
AnonNo15
Well, duh, stock (or bond) market is not stochastic process.

------
encoderer
I sell premium as a primary investing strategy and as a rule there are only 20
or so underlyings with active enough derivatives markets by my standards. In
widely traded underlyings not only do you get tighter markets, but a more
valid crowd-sourcing of option probability.

As a rule, derivative liquidity in the bond market is significantly lower than
equities.

