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“The essence of investment management is the management of risks, not the management of returns”*…

Paris Bourse

In 1754, the infamous scam artist, diarist, and womanizer Giacomo Girolamo Casanova reported that a certain type of high-stakes wager had come into vogue at the Ridotto. The bet was known as a martingale, which we would immediately recognize as a rather basic coin toss. In a matter of seconds, the martingale could deliver dizzying jackpots or, equally as often, ruination. In terms of duration, it was the equivalent of today’s high-speed trade. The only extraordinary fact about the otherwise simple martingale was that everybody knew the infallible strategy for winning: if a player were to put money on the same outcome every time, again and again ad infinitum, the laws of probability dictated that not only would he win back all he may have previously lost, he would double his money. The only catch was that he would have to double down each time, a strategy that could be sustained only as long as the gambler remained solvent. On numerous occasions, martingales left Casanova bankrupt.

In modern finance, the coin toss has come to represent a great deal more than heads or tails. The concept of the martingale is a bulwark of what economists call the efficient-market hypothesis, the meaning of which can be grasped by an oft-repeated saying on Wall Street: for every person who believes a stock will rise—the buyer—there will be some other equal and opposite person who believes the stock will fall—the seller. Even as markets go haywire, brokers and traders repeat the mantra: for every buyer, there is a seller. But the avowed aim of the hedge fund, like the fantasy of a coin-tosser on the brink of bankruptcy, was to evade the rigid fifty-fifty chances of the martingale. The dream was heads I win, tails you lose.

One premonition as to how such hedged bets could be constructed appeared in print around the time when gambling reached an apex at the Ridotto casino, when an eighteenth-century financial writer named Nicolas Magens published “An Essay on Insurances.” Magens was the first to specify the word “option” as a contractual term: “The Sum given is called Premium, and the Liberty that the Giver of the Premium has to have the Contract fulfilled or not, is called Option . . .” The option is presented as a defense against financial loss, a structure that would eventually make it an indispensable tool for hedge funds.

By the middle of the next century, large-scale betting on stocks and bonds was under way on the Paris Bourse. The exchange, located behind a panoply of Corinthian columns, along with its unofficial partner market, called the Coulisse, was clearing more than a hundred billion francs that could change volume, speed, and direction. One of the most widely traded financial instruments on the Bourse was a debt vehicle known as a rente, which usually guaranteed a three-per-cent return in annual interest. As the offering dates and interest rates of these rentes shifted, their prices fluctuated in relationship to one another.

Somewhere among the traders lurked a young man named Louis Bachelier. Although he was born into a well-to-do family—his father was a wine merchant and his maternal grandfather a banker—his parents died when he was a teen-ager, and he had to put his academic ambitions on hold until his adulthood. Though no one knows exactly where he worked, everyone agrees that Bachelier was well acquainted with the workings of the Bourse. His subsequent research suggests that he had noted the propensity of the best traders to take an array of diverse and even contradictory positions. Though one might expect that placing so many bets in so many different directions on so many due dates would guarantee chaos, these expert traders did it in such a way as to decrease their risk. At twenty-two, after his obligatory military service, Bachelier was able to enroll at the Sorbonne. In 1900, he submitted his doctoral dissertation on a subject that few had ever researched before: a mathematical analysis of option trading on rentes.

Bachelier’s dissertation, “The Theory of Speculation,” is recognized as the first to use calculus to analyze trading on the floor of an exchange, and it contained a startling claim: “I have in fact known for several years that it would be possible . . . to imagine transactions where one of the parties makes a profit at all prices.” The best traders on the Bourse knew how to establish an intricate set of positions designed to protect themselves no matter which way or at what speed the market might move. Bachelier’s process was to separate out each element that had gone into the complex of bets at different prices, and write equations for them. His committee, supervised by the renowned mathematician and theoretical physicist Henri Poincaré, was impressed, but it was an unusual thesis. “The subject chosen by M. Bachelier is rather far away from those usually treated by our candidates,” the report noted. For work that would unleash billion-dollar torrents into the capital pools of future hedge funds, Bachelier received a grade of honorable instead of très honorable. It was a B.

Needless to say, Bachelier’s views of math’s application to finance [published in 1900] were ahead of his time. The implications of his work were not appreciated, much less exploited, by Wall Street until the nineteen-seventies, after his dissertation was discovered by the Nobel Prize winner Paul Samuelson, the author of one of the best-selling economics textbooks of all time, who pushed for its translation into English. Two economists, Fischer Black and Myron Scholes, read the work and, in a 1973 issue of the Journal of Political Economy, published one of the most famous articles in the history of quantitative finance.

Based on Bachelier’s dissertation, the economists developed the eponymous Black-Scholes model for option pricing. They established that an option could be priced from a set-in-stone mathematical equation, which allowed the Chicago Board Options Exchange (C.B.O.E.), a new organization, to expand their business to a new universe of financial derivatives. Within a year, more than twenty thousand option contracts were changing hands each day. Four years after that, the C.B.O.E. introduced the “put” option—thus institutionalizing the bet that the thing you were betting on would lose. “Profit at all prices” had joined the mainstream of both economic theory and practice…

From the remarkable story of the French dissertation that inspired the strategies that guide many modern investors ad al that it has wrought: “A Brief History of the Hedge Fund.”

Spoiler alert: it hasn’t always worked out so well (c.f. Long-Term Capital Management)… at least for investors. As Janet M. Tavakoli observed in Structured Finance and Collateralized Debt Obligations: New Developments in Cash and Synthetic Securitization

Hedge funds have made massive leveraged credit bets, knowing that their upside is billions in fees and their downside is millions in fees.

Benjamin Graham


As we ruminate on risk, we might recall that it was on this date in 2020 that the Federal Reserve rode in to rescue financial markets to prevent their complete freezing up– which could have entered history books as another global mega-crash. The Dow Jones stock market index had hit an all-time record of 29,551 on February 12, 2020. Then, the coronavirus emerged in earnest in the U.S., unemployment soared, and on March 9 the DJIA took a dive of over 2,000 points; it continued to fall, down to 18,321 on March 23… at which point the Fed intervened, pouring vast sums of cash into the financial system, resulting in a stock market bonanza in the midst of the worst economic collapse since the Great Depression. The Dow stands at this writing at over 35,000.


“You’re mugging old ladies every bit as much if you pinch their pension fund”*…

Who benefits from the commercial biomedical research and development (R&D)? Patients-consumers and investors-shareholders have traditionally been viewed as two distinct groups with conflicting interests: shareholders seek maximum profits, patients – maximum clinical benefit. However, what happens when patients are the shareholders?…

Adding investments by governmentally-mandated retirement schemes, central and promotional banks, and sovereign wealth funds to tax-derived governmental financing shows that the majority of biomedical R&D funding is public in origin. Despite this, even in the high-income countries patients can be denied access to effective treatments due to their high cost. Since these costs are set by the drug development firms that are owned in substantial part by the retirement accounts of said patients, the complex financial architecture of biomedical R&D may be inconsistent with the objectives of the ultimate beneficiaries…

It has been estimated that of the total $265 billion spent annually on biomedical research worldwide, over a third – $103 billion comes from public sources. Nevertheless, as public input capital is allocated predominantly into early stage research, nearly all output – medicines – is ultimately brought to the market by private firms. Importantly, these firms are not independent agents. They have owners-shareholders to report to. Until the end of the previous century the major type of owners-shareholders were individual households. At the turn of the millennium, however, they have been displaced by institutional investors, the largest of which are public retirements schemes or quasi-public funds, such as occupational pensions.

First, government money underwrites the basic R&D that goes into drug discovery and development, then public pension monies fund the private companies that bring those drugs to market. As the private companies are solving for highest profits, as opposed to optimal public health, those drugs are often priced out of the reach of the very people whose pension contributions funded their development. Drugs “priced out of reach” is certainly not a new phenomenon; AIDS drugs (to take one example) were priced by Western pharma companies at prices that rendered them inaccessible to most citizens of low-income countries in Africa and Asia. The pensioners in wealthy nations were, effectively, living off of the misery of those in poorer companies.

But the dynamic has continued, deepened– and come home to roost. Now patients in high-income countries are denied access to effective treatments due to their high cost, while these costs are being set by the drug development firms, owned in substantial part by the retirement accounts of those same patients, and benefiting from direct and indirect governmental support.

Investing in one’s own misery– the painful irony of pharma funding: “Pension and state funds dominating biomedical R&D investment: fiduciary duty and public health.”

[Image above: source]

* Ben Elton, Meltdown


As we untangle unintended consequences, we might send healthy birthday greetings to Charles Value Chapin; he was born on this date in 1856. A physician and epidemiologist, he was a pioneer in American public health. He co-founded in first bacteriological laboratory in the U.S. (in 1888) in Providence, were he was Superintendent of Health– a position he held for 48 years. In 1910, he established Providence City Hospital where infectious disease carriers could be isolated under aseptic nursing conditions; his success inspired similar health control measures throughout the U.S. A professor (at Brown) and prolific writer, his impact on health policy and practice was so broad that he was hailed as “the Dean of City Public Health Officials.”


“I’m forever blowing bubbles / Pretty bubbles in the air”*…




Last Wednesday, Hertz, which has filed for bankruptcy, suspended it’s plans to sell lots of new shares.  The backstory is fascinating… and sadly, all-too-indicative of our times…

Ok, so. Up until this year, I would’ve told you that there are two general kinds of financial bubbles.

The first kind of bubble is where everyone believes the future will be like the present. Think credit bubbles and real estate; think 2007-2008, where the fundamental belief that drove the bubble forward and into ruin was “We’ve figured this out. We can’t lose. The risk has all been worked out. Lever up, cowboy. We will never die.”…

The second kind of bubble is where everyone believes the future will be different from the present. Think equity bubbles, startups, and crypto; think 1999, where the fundamental belief that drove the bubble forward and into ruin was “It’s a new economy. All the rules are different. The upside is unlimited. If you get in now, you’ll be rich. We’re going to live forever.”…

I was wrong. There is a third kind of bubble, it’s happening spectacularly right now, and we’re going to see it a lot more in the future.

If the first kind of bubble is “everyone thinks the future will be the same”, and the second kind is “everyone thinks the future will be different”, the third kind is “everyone thinks the future doesn’t matter.”…

I’m sure most of you have heard of the Wallstreetbets subreddit by now; if you haven’t, the best way I know how to explain it is that it’s like “multiplayer Jackass for the stock market.”

Wallstreetbets started as a bunch of random internet yahoos bragging about crazy YOLO trades they’d make (and would actually follow through on!), and what enormous percentages of their net worth they’d win or lose spectacularly. I really do think that Jackass is a good comparison here. Yes, these people are trying to get rich; but more importantly, they’re trying to provoke reactions. It’s a game of who can be the most shocking. There’s really not much difference between reading some of these WSB posts and watching an old Jackass sketch. You’ll laugh until you can’t breathe, and then keep laughing when you realize someone actually got kicked in the crotch that hard.

But as it got more popular, some actually sophisticated (and supremely aggressive) traders are getting in on the fun, and it got highly competitive and weird. It’s the newest version of “the stock market as full-contact sports with legal gambling”, and it’s a lot of fun. No one here cares about valuation or fundamentals. It is explicitly a casino. Everyone is here to get in and out of a position in the most shocking way possible. And, astoundingly, there’s enough AUM getting accumulated behind these bets that it can actually start to move individual stocks in weird ways.

The groundwork for this strange show has been built up over a few years, but when the pandemic hit, all hell broke loose. A perfect storm of events come together: first, generational volatility in the stock market as everyone tried to get in front of (and then out from) a global pandemic; second, everyone getting quarantined at home and desperate to feel something, and third: no sports.

Enter Hertz. Hertz was in trouble anyway; it’s carrying around a ton of debt to pay for a fleet of cars that no one wants to drive, because we have Uber now. When the pandemic hit, they got called on their debt, couldn’t make it work, so they had to declare bankruptcy and start a restructuring process.

But then weird things started to happen. Hertz’s stock, which is presumably worthless, starts to go up. And up. And up. It gets bid up a whole 500% over a 3-day period last week. What is going on?

There’s no way to describe it other than, this is a Jackass sketch taking place. It started out as these internet YOLO traders playing an increasingly stupid game of chicken. But then it… caught on? Other people started to get in on this too. Hey, obviously the stock in the long run is worth zero. Everyone knows that. But it’s going up, and tomorrow it might go up more. If this were just some dumb penny stock with a cool story attached to it, that’d be old news. This is different.

When you see a stock getting bid up like this, the only conclusion you can draw is “The future does not matter, because in between now and then, this is explicitly just spinning a roulette wheel. The stock could go up or down, who knows, but at least you know it has nothing to do with the underlying value of the stock (which we all know is zero!), and everything to do with other gamblers.

So Hertz sees this happening, and they’re like, well, if there’s demand for our stock, we should go sell some! I mean, it’s a ridiculous kind of demand, and it’s not “real” demand, but hey, maybe it’s real enough. So Hertz files, and is granted, an emergency request to their bankruptcy judge to issue a billion dollars worth of new stock in order to take advantage of whatever this is. Tom Lauria, one of the attorneys representing Hertz, had an all-timer line: “New platforms for day traders may be facilitating this. There are forces at work that us non-financial people, that we can only observe.” The SEC, presumably between gasps of laughter, declined to weigh in on whether the transaction was legal, saying “it is up to the company to comply with securities law.”

Just to restate how funny this is: Hertz is granted permission, by their own bankruptcy judge, to sell stock in their company which has already declared bankruptcy, because due to weird mojo in the universe, there’s a small army of reddit trolls playing chicken with each other and it just might save the company. Financial Twitter goes crazy, and (of course!) people start bidding up stocks of other bankrupt companies. It was a great day to be online…

Eminently worth reading in full– the ever-illuminating Alex Danco on the emergence of a new kind of financial bubble: “Never Hertz to Ask.”

See also “Speculative Booms” in Jamie Catherwood’s “The State of the Market” (and then, here); plus “Hertz share issue: demolition derby” and “Trading Sportsbooks for Brokerages, Bored Bettors Wager on Stocks.”

And experts suggest that there’s going to be more–lots more– scope for creativity: “A Tidal Wave of Bankruptcies Is Coming.”

* Popular American song; music by John Kellette; lyrics credited to “Jaan Kenbrovin” — actually a collective pseudonym for the writers James Kendis, James Brockman and Nat Vincent, combining the first three letters of each lyricist’s last name. The number was debuted in the Broadway musical The Passing Show of 1918


As we pucker up, we might recall that it was on this date in 1970 that Penn Central, a century-old American railroad company, declared Section 77 bankruptcy, the largest ever U.S. corporate bankruptcy up to that date.  They did not use the occasion to issue stock, and did later exit bankruptcy, and were ultimately folded into Conrail, the U.S. government’s railroad holding company.




Written by LW

June 21, 2020 at 1:01 am

“Commodities tend to zig when the equity markets zag”*…


Screen Shot 2020-01-13 at 11.11.12 AM


On the subject of things– things that matter, whether we are active investors or not– that we might (to our peril) take for granted…

There are plenty of expensive assets in the world today. The past decade of loose monetary policy and central bank money dumps have created the infamous “bubble in everything”. This is one reason we now have the bizarrely yo-yoing investment environment that we do, in which everything from risky stocks to safe gold is rising at the same time.

But one thing has remained reliably cheap — commodities. While the US equity market, which keeps ratcheting up to new highs, is almost as expensive as in the past 150 years, commodities are about as cheap relative to stocks as they’ve been in the past century.

Part of this is natural — and structural…

And yet, having watched the last big demand-driven oil spike in 2008, as well as the more financially driven price spike in 2011-12, which eventually came undone when central bankers pulled back on quantitative easing, I think it’s unwise to assume that we have entered a permanent bear market in commodities — at least not yet…

… if commodity prices did rise, there would be myriad ramifications. You would start to see the heads of petro states further emboldened, and populist nationalism increase globally — inflation in food and fuel prices hits the poor hardest, encouraging political volatility. That could, in turn, create new trade turmoil and the sort of disruption that the markets are currently discounting.

On the upside, though, demand for commodities is price elastic — once prices go too high, demand always falls. The cycle of replacing one source of energy with another has been playing out for hundreds of years, and continues. In an ideal world, the next commodities bubble, whenever it comes, could help us make what might be the final shift — away from fossil fuels and towards renewables.

The estimable Rana Foroohar explains there are many reasons for the US dollar to weaken, which would (among other drivers) cause commodity prices to rise: “Commodities may not stay cheap forever.”

* legendary investor Jim Rogers


As we contemplate cycles, we might rejoice that it was on this date in 1605 that El Ingenioso Hidalgo Don Quijote de la Mancha ( or The Ingenious Hidalgo Don Quixote of La Mancha— aka Don Quixote), the masterwork of Miguel de Cervantes (and of the Spanish Golden Age) was first published.

Original title page


Written by LW

January 16, 2020 at 1:01 am

“Got no checkbooks, got no banks”*…


Trinidad and Tobago, the tiny twin-island nation off the coast of Venezuela, has struck gold. Its newly re-released $50 note (TT) earned top billing in this year’s competition convened by the International Bank Note Society (IBNS).

Designed in partnership with the British banknote manufacturer De La Rue to commemorate the 50th (golden) anniversary of the country’s Central Bank, the $50 note shows familiar takes on its national symbols like its coat of arms, a red hibiscus flower, and a red capped cardinal bird, its wings fanned out like a palm tree. The back of the note depicts a smiling carnival dancer, collaged in front of the 22-story Central Bank and Ministry of Finance twin towers, which are the tallest buildings in the entire country…

Read the whole story and see the runners-up at “The world’s best banknotes of the year.”

* Irving Berlin, “I Got the Sun in the Morning”


As we reach for our wallets, we might recall that it was on this date in 2012 that Facebook went public.  The IPO was the biggest in technology and one of the biggest in Internet history, with a peak market capitalization of over $104 billion.  Some pundits called it a “cultural milestone”; in any case, a great deal of money was “printed.”



Written by LW

May 18, 2015 at 1:01 am

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