Posts Tagged ‘behavioral economics

put your money where your mouth is

Few days ago the Wall Street Journal reported that the hedge-fund Universa Investments LP, advised by Nassim Nicholas Taleb, author of the Black Swan, was betting that despite the Fed’s best effort things will go terribly wrong (again) and we will end up in deflation or hyperinflation (here, see also Bloomberg here).  Universa’s investment strategy is based, among other things, on buying deep out-of-the money options, with the assumption that the market is underestimating the probability of extreme events. So, for instance, in September 2008, Universa was purchasing out-of-the money options on the S&P 500 index at 90 cents, and when the market crashed they were selling them at around $50. Needless to say they have been quite successful with the crisis.

Taleb is not the only scholar putting his money where is mouth is. Behavioral economists Dick Thaler (Chicago) and Daniel Kahneman (Princeton), are on the board of Fuller & Thaler Asset Management, Inc.,  and leverage their research on behavioral biases to assess market reactions to news and identify mispriced assets.

After reading about these ventures I started wondering: what would an “Economic Sociology” fund look like?

Our field has been studying markets for a few years now, and maybe we already know a things or two that could be “translated” in investment strategies.  Zuckerman’s  “illegitimacy discount” and “structural incoherence“, for instance, might be an interesting starting point to develop an investment strategy on volatility.  Rao, Greve and Davis‘ work on security analysts’ coverage initiation and abandonment, and the literature on social influence among analysts, might help predict analysts’ behavior and stock reactions. Yuval Millo, Daniel Beunza and the Socializing Finance crowd must have discussed this problem, and I bet they will launch a “Performativity fund” one day: what would that fund look like?

I am sure that the “translation” of theoretical insights into investment strategies is a complicated task, but we can learn a lot about our theories and their limits with this thought experiment.

And who knows, maybe in a few years one of you will be profiled in Bloomberg, or GQ, as the new Taleb, hopefully with a better attitude!


Written by Fabrizio Ferraro

June 6, 2009 at 4:18 pm