4 ms·

according to nicholas Taleb, Black-Scholes was always broken. I tend to believe him based on results achieved by Scholes https://en.wikipedia.org/wiki/Long-Term

by ptah 7y ago

according to nicholas Taleb, Black-Scholes was always broken. I tend to believe him based on results achieved by Scholes https://en.wikipedia.org/wiki/Long-Term_Capital_Management https://en.wikipedia.org/wiki/Long-Term_Capital_Management

grenoire 7y ago
This fact is luckily slowly leaking into higher education of finance, and is preventing hundreds of poor finance students from attempting to reinvent the wheel.
pfortuny 7y ago
Also, options were priced (and this price agreed upon both parties) long before the formula. So, the formula is just a technical so to say after-the-fact explanation of the pricing. Interesting as a technical tool, but not mind-shattering per se.
conistonwater 7y ago
But LTCM wasn't based on options trading, its main strategy (the one that failed) was arbitrage of bonds with different maturity dates: https://en.wikipedia.org/wiki/Long-Term_Capital_Management#Fixed_Income_Arbitrage https://en.wikipedia.org/wiki/Long-Term_Capital_Management#F... That hasn't got much to do with Black-Scholes
- viburnum 7y ago
  LTCM cracks me up because it should have been obvious that linking a massively liquid market with a not very liquid market was going to be trouble. IIRC when the crisis came it turned out there were only three or four buyers on the tight side, and when they sat on the sidelines it was game over for LCTM.
mikeyouse 7y ago
Taleb's funds aren't any more impressive.. LTCM blew up very publicly but Empirica shut down after many years of losses and Universa isn't exactly a high performer. He's still out there banging the drum about hyperinflation!
- viburnum 7y ago
  Just wait until the paleo/deadlift bubble pops, he’ll be wiped out completely.
darksaints 7y ago
You should take a closer look at what actually happened to LTCM. Their model remained profitable even after the crash, and recovered value far quicker than other hedge funds did. The real cause of the systemic failure had more to do with the actions of investors than the fundamentals of the model. The investors were heavily overleveraged across the board, and when they started losing money elsewhere, they initiated a flight to liquidity within LTCM. The flight to liquidity caused them to liquidate positions before they converged, compounding losses. Those positions for the most part actually did converge, but were prematurely exited. Had those investors not liquidated, they would have continued making strong returns. In other words, LTCMs collapse was the fault of the investors in LTCM, not the fault of the model. There are hundreds of hedge funds that have continued using the same basic model as LTCM, and have lasted through two recessions and several global financial shocks. They have achieved that by learning from LTCM: keep the model, dump the stupidly overleveraged investors.
- conistonwater 7y ago
  I don't think that's right, at least this is not the way I learned it: the terms on which you borrow money to fund your investments should be considered a part of the model. So if you borrow short term and invest long term, your model itself now includes maturity transformation, and it can blow up just like any such model. Sure you can then construct a different model that's basically the same but without the maturity transformation, and that's okay, you'll get different returns. Thinking about it this way I think it's still fair to blame LTCM, their investors were free to do whatever their contract allowed them to do.
  - owenversteeg 7y ago
    That's true, and very important. And while I think (or, at least, I hope) large investors keep that in mind after so many high profile explosions like LTCM, I think small time retail investors tend to forget that, and that there's a reason Vanguard (for example) suggests 70% stocks and 30% bonds. Doesn't seem too important, until you need the money...
- SilasX 7y ago

by ptah 7y ago

grenoire 7y ago

This fact is luckily slowly leaking into higher education of finance, and is preventing hundreds of poor finance students from attempting to reinvent the wheel.

pfortuny 7y ago

Also, options were priced (and this price agreed upon both parties) long before the formula. So, the formula is just a technical so to say after-the-fact explanation of the pricing. Interesting as a technical tool, but not mind-shattering per se.

conistonwater 7y ago

But LTCM wasn't based on options trading, its main strategy (the one that failed) was arbitrage of bonds with different maturity dates: https://en.wikipedia.org/wiki/Long-Term_Capital_Management#Fixed_Income_Arbitrage https://en.wikipedia.org/wiki/Long-Term_Capital_Management#F... That hasn't got much to do with Black-Scholes

viburnum 7y ago
LTCM cracks me up because it should have been obvious that linking a massively liquid market with a not very liquid market was going to be trouble. IIRC when the crisis came it turned out there were only three or four buyers on the tight side, and when they sat on the sidelines it was game over for LCTM.

mikeyouse 7y ago

Taleb's funds aren't any more impressive.. LTCM blew up very publicly but Empirica shut down after many years of losses and Universa isn't exactly a high performer. He's still out there banging the drum about hyperinflation!

viburnum 7y ago
Just wait until the paleo/deadlift bubble pops, he’ll be wiped out completely.

darksaints 7y ago

You should take a closer look at what actually happened to LTCM. Their model remained profitable even after the crash, and recovered value far quicker than other hedge funds did. The real cause of the systemic failure had more to do with the actions of investors than the fundamentals of the model. The investors were heavily overleveraged across the board, and when they started losing money elsewhere, they initiated a flight to liquidity within LTCM. The flight to liquidity caused them to liquidate positions before they converged, compounding losses. Those positions for the most part actually did converge, but were prematurely exited. Had those investors not liquidated, they would have continued making strong returns. In other words, LTCMs collapse was the fault of the investors in LTCM, not the fault of the model. There are hundreds of hedge funds that have continued using the same basic model as LTCM, and have lasted through two recessions and several global financial shocks. They have achieved that by learning from LTCM: keep the model, dump the stupidly overleveraged investors.

conistonwater 7y ago
I don't think that's right, at least this is not the way I learned it: the terms on which you borrow money to fund your investments should be considered a part of the model. So if you borrow short term and invest long term, your model itself now includes maturity transformation, and it can blow up just like any such model. Sure you can then construct a different model that's basically the same but without the maturity transformation, and that's okay, you'll get different returns. Thinking about it this way I think it's still fair to blame LTCM, their investors were free to do whatever their contract allowed them to do.
- owenversteeg 7y ago
  That's true, and very important. And while I think (or, at least, I hope) large investors keep that in mind after so many high profile explosions like LTCM, I think small time retail investors tend to forget that, and that there's a reason Vanguard (for example) suggests 70% stocks and 30% bonds. Doesn't seem too important, until you need the money...
SilasX 7y ago