I was slumped in front of the TV at nine o’clock on Monday evening (well, what else can you do on a Monday night in January?). In my defence, I wasn’t watching “Music, money and Hip-Hop Honeys” on BBC3, but instead opted for Horizon.
It turns out that Nobel Prize winning biologist, Sir Paul Nurse, has a bee in his bonnet. What’s got him hot under the collar is that people are losing faith in science. And many of the responses he received from so-called “doubters” reminded me of things I hear again and again from traders hoping to forecast the forex.
We want science (and trading strategies) to give us clear answers – not models and probabilities. We want a definite chain of cause and effect.
And when we don’t get these answers – we lose faith in the science.
Even science can’t get it right, so how can we forecast the forex?
A few years ago, my son had a serious problem with his eyesight. The doctors told my wife and me that they’d try “x” treatment to see if it worked, and if not they could try “y”, and if that failed, there were other alternatives … I felt indignant – surely these doctors are scientists and they can tell me exactly what’s wrong and exactly what we need to do to fix it …
Of course, that isn’t how it works. The natural world is full of unknown variables.
But as traders we often fall into the same trap – we want trading signals that work consistently, we want a strategy that will never fail, and we don’t like it when our win ratios slide or unexpected events upset our targets.
That Michael Fish moment
The parallels between trading and weather modelling are a good way to explain my point.
In May 2009, the Met office unveiled the UK’s most powerful supercomputer: it is the size of two football pitches, is more powerful than 100,000 PCs and took two months to fully boot up.
Yet, the wet “barbeque” summer of 2009 is testament to the fact that this mega-computer can still get the weather very wrong.
And a few years ago, global warming scientists told us that winters in the UK would be warmer and wetter. They definitely got the wetter bit right – but models now show that melting polar icecaps have diverted the Gulf stream southwards – depriving the UK of the warm(ish) waters that gave us our temperate winters. This has left us with the heavy snow falls that we’re beginning to get used to.
For all their complicated modeling – the climate scientists still fail to take certain factors into account, misjudge the effects, and, ultimately, get things wrong.
Sound familiar?
I can think of many a time when I’ve placed a trade with a warm glow that my technical analysis has been spot-on. That all my signals have come into alignment and all I need to do is wait for the profits to hit my account.
Who would guess that that would be the day when the world suddenly reacts to some low-key report from a Swiss bank, or – more often than not – I don’t even know where I went wrong. There are simply too many variables to understand why the market failed to behave in the way I’d anticipated.
Physics envy
I was reminded of a paper I read last year called “Warning: Physics envy may be hazardous to your wealth”. What the paper set out to illustrate was that a quest for mathematical certainty would cause traders to find fault with their perfectly sound models and systems.
From what I remember, the conclusion of this rather lengthy paper was that trading is rather like mapping the weather – we do our best to make forecasts, but we can’t always predict when or where a hurricane will strike, or how global warming will affect us …
So, what lessons should we, as traders, take from this?
My view is that we should carry on honing our models, following our trends – and always carry an umbrella!
In the next seven days…
We’re still reeling from two weeks’ worth of shocking economic news in the UK. If last week’s horrible inflation We’re still reeling from two weeks’ worth of shocking economic news in the UK. If last week’s horrible inflation numbers knocked us sideways, this week’s GDP delivered the body-slam.
George Osborne tells us that the missing percentage point on our GDP numbers got lost somewhere in heavy snow, no doubt just after that big dog bounded along Downing Street and ate his homework.
By contrast, the Bank of England are looking significantly wiser, and more justified in maintaining interest rates. How bad the news really is remains to be seen. But things aren’t looking great. We can always pin our hopes on an upward revision as new data comes out.
But enough about last week – let’s see what’s coming up …
Economists will have their fingers and toes crossed for the Purchasing Managers Index on Thursday. Unless we see a significant upward swing, we’ll have no reason to doubt that the UK economy is slowing down.
Beyond the UK, thoughts will be on the US labour market. Non-farm productivity numbers come out on Thursday – these aren’t about job numbers, but output (i.e. how hard people are working). However, the figures can be an advance indicator that more jobs are coming – which may be a comfort when the labour market report comes out on Friday.
