Quote: (02-23-2012 02:39 AM)Entropy Wrote:
Quote: (02-22-2012 11:07 PM)Cicero Wrote:
Read up on reflexivity as an alternative to classical economic theory. It's the framework George Soros uses to think about market fluctuations.
that is nice and dandy, alchemy of finance....but, how do you practically use this to make money?
Give concrete, practical examples....
Well you start with the framework that the theory of efficient markets is bunk and you recognize that in times of boom and bust, the quant models won't hold up and you exploit that fact.
Equilibrium is only possible in a world without reflexivity: in a world with it then prices can be driven to insane levels simply because of people behaving like people. If enough investors believe that a price change is indicative of something important and follow the trend then the trend can take on a life of its own and equilibrium be damned.
Example - CDOs were "engineered" under the premise of efficient markets and had built in predictions of how the market would act under certain circumstances. Surprise surprise, the CDOs didn't behave as the models says they should've. Those who realized models were flawed and fragile profited handsomely by buying CDSs against CDOs.