
MIT Economist Has a New Theory of Finance - allenleein
https://www.bloomberg.com/news/articles/2017-10-16/mit-economist-andrew-lo-has-a-new-theory-of-finance
======
SolarNet
> The efficient-markets hypothesis says markets are rational and self-
> regulating, but it doesn’t account for crashes and crises

It's also a computationally insane assertion, if it were true then markets are
capable of computing NP in P (which even with the human element would still be
an impressive find; especially considering the `n` it's commonly proposed over
in "formal" economic settings is in the area of tens of thousands). It's like
people who claim they made a perpetual energy machine are claiming things that
are physically insane. Except it's not just some cranks, it's entire fields
that haven't caught up to the ideas computer science has discovered.

The adaptive market hypothesis appears to resolve this by tying the efficient
market hypothesis to the biology of the computational unit. Since biological
systems (appear to) obey the principles of computation, the issue is fixed.
Overall it seems a better way forward by connecting pseduo-sciencey intuitive
aspects of economics (that violate what we now know about the properties of
information) to real science.

~~~
naasking
> It's also a computationally insane assertion, if it were true then markets
> are capable of computing NP in P

Unless I missed it, they don't assert that markets are _optimal_ , which seems
to be what you're saying, but merely _efficient_ and thus, it would be hard
(but possible) to do better.

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DannyBee
Well, actually, they kinda do. Also,
[https://arxiv.org/abs/1002.2284](https://arxiv.org/abs/1002.2284)

~~~
naasking
From your link:

> Financially, the “economic calculation problem” of von Mises (1920) and
> Hayek (1935) suggests, among other things, that, even if a free market is
> not perfectly efficient, it will certainly be more efficient than a
> regulatory or government alternative. In other words, even if mispricings
> occasionally occur, most of the time they are smaller than any other
> alternative system

So the paper possibly disproves a particular kind of efficiency (weak form
efficiency), but that's not the colloquial meaning to which I was referring.

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thanatropism
Andrew Lo's test for long memory/fractal order of integration is standard in
econometrics packages such as RATS, Eviews, Stata, etc.

It's a technical clarification of vaguer ideas put forward by Mandelbrot,
Hurst, etc. but it still means the man's no Taleb, he's the real stuff.

~~~
dgudkov
What's wrong with Taleb? Not arguing, just curious.

~~~
mi100hael
Not OP, but survivorship bias, mostly. He's maybe not wrong, but he's also not
very rigorous in his arguments.

~~~
nl
This.

Also, the unacknowledged inconsistency of his arguments is ridiculous:
~"Unpredictable events happen more frequently than people expect. I'm 100%
right about this prediction of the future and you are an idiot if you
disagree".

~~~
dmichulke
I think he meant rather:

\- it's hard (impossible) to predict population statistics from a sample with
size 1, ceteris paribus. Over the short term, you have sample size 1 for rare
events, over the long term ceteris paribus doesn't hold.

\- people "coerce" everything into a normal distribution in order to get a
handle on things which is of course wrong if the thing you look at is not
normally distributed. Finance comes to mind.

~~~
nl
Sorry the two sentences in the quasi-quote are separate things. The first
sentence is his book 'Black Swans' and the second is his Twitter feed. I
should have made that more clear.

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mrjaeger
Has anyone read Adaptive Markets? If so would you recommend it? I'm concerned
about this line from the article:

> Lo’s next step is to develop mathematical models to test the ability of his
> hypothesis to explain market behavior.

Is there any experimental data to back up his theoretical framework? It's a
very tempting idea to buy into (people in general work things out, on an
individual level they make a lot of mistakes). I worry about his arguments
following logically but falling apart once his theories have been tested.

~~~
cgio
If he is the Lo I think he is then his textbook on econometrics (Mckinsey &
Lo?) is one of the best. I would guess econometric studies support his
insights already but he tries to formulate experimental results in a
consistent model that aligns with his theory.

~~~
Nicholas_C
Lo & MacKinlay. Anytime I hear Andrew Lo I think of MacKinlay as I heard their
names used together 1,000 times during undergrad.

~~~
cgio
Thank you. I knew I probably had the name wrong. It's been a few years since
my undergrad years and that's a painful reminder.

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nscalf
Since undergrad while taking economics classes, I thought this was entirely
obvious. And honestly, I still do. To assume everyone is a rational actor is
to assume everyone is perfect: they don't make mistakes, they don't have
asymmetric information, etc.

You can already see the changes that this articles suggests should happen in
practice with high speed trading. I'd love a more detailed article, because
this describes something obvious and vague.

~~~
bllguo
You may be misinterpreting things. Relevant from Wikipedia: "Lo argues that
much of what behaviorists cite as counterexamples to economic rationality—loss
aversion, overconfidence, overreaction, and other behavioral biases—are, in
fact, _consistent_ with an evolutionary model of individuals adapting to a
changing environment using simple heuristics."

And as an aside, I am pretty tired of people saying things like this, without
fail, in every thread about economics. A simplified model is better than no
model at all. People have been trying to account for irrationality for ages.
It's not particularly astute to recognize that individuals are not perfectly
rational.

~~~
Firadeoclus
> A simplified model is better than no model at all.

This is true in physics where the system being modelled is governed by stable
laws. You can confirm the model's predictive usefulness by experiment. If you
test the model and find its limitations, you expect them to hold in 50 years'
time.

Economic models, however, are themselves part of the economy. The ideas they
are built on and their predictions become part of wider knowledge and
influence the very thing the model is trying to predict or explain, possibly
reinforcing or weakening certain behaviours. If a simplified model becomes
widespread it can lead to blind spots in our understanding which cause
systemic issues.

Of course that doesn't mean the model was bad or unsuitable for its original
intent. But a simplified model can, in the wrong hands, be a net negative.

~~~
bllguo
That is an interesting point, that people have bought too much into this
simplified model s.t. reality bends towards the model. I don't know if I blame
the model for that - like you say in your last sentence.

But what's the alternative besides starting with simplifications and
iterating?

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emmelaich
[https://en.wikipedia.org/wiki/Adaptive_market_hypothesis](https://en.wikipedia.org/wiki/Adaptive_market_hypothesis)

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anigbrowl
I'm sure I'll like his book, but this article is shallow to the point of being
trite. Any recommendation for a better intro?

~~~
tomjakubowski
Lo’s investment management firm, AlphaSimplex Group, has posted a decent intro
here, and a link to a more comprehensive (15pg) essay (2004):
[https://www.alphasimplex.com/insight/the-adaptive-markets-
hy...](https://www.alphasimplex.com/insight/the-adaptive-markets-hypothesis-
market-efficiency-from-an-evolutionary-perspective/)

~~~
anigbrowl
Thanks so much. I would probably have overlooked that thinking it was out of
date.

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allenleein
You can use this
([https://github.com/njuljsong/wsjUnblock](https://github.com/njuljsong/wsjUnblock))
to bypass the paywall.

~~~
asimpletune
What is the legality of making something to help people not pay for stuff? Not
trying to be confrontational, I sincerely don’t know + don’t feel sorry for
them.

~~~
boznz
I haven't tried it either but I'm pretty sure there is no legality issues
outside of the US, probably dubious legality inside the States but I wouldn't
want to go up against their lawyers to prove it..

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WillReplyfFood
Let me guess: "A optimal market configuration is when power and money
aggregate at".. placeResearchDonatorHere.." ."

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pdog
If Andrew Lo's theory of adaptive markets is any good, why isn't he rich? This
looks like dressed up technical analysis.

~~~
dsacco
Keep in mind the following:

1\. Economic theories can be empirically descriptive without being
constructively prescriptive (much like other theoretical disciplines, such as
math or physics),

2\. You're reading about his work from what is effectively a watered down
blurb on a Bloomberg webpage,

3\. He actually is the founder and chief investment officer of a fund with
over $5B AUM, so yes, he likely is "rich".

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cm2187
On the path of a new revolutionary attempt to predict the past!

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Frye
#harambe

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Tloewald
Doesn’t seem like a new theory so much as a description of a possible lemma
(...real soon now) for behavioral economics.

