Who am I? What am I doing here?

Admiral Stockdale at the Vice Presidential DebateIn the immortal words of Admiral Stockdale, “Who am I? What am I doing here?”

I have always been fascinated by financial markets. At the dawn of the Internet Revolution, I envisioned vast swaths of American enterprise being replaced by efficient market based mechanisms. Bantering about the infrastructure necessary to ensure an efficient electronic marketplace for bandwidth, or advertising or laundry, was a frequent pleasure.

But while finance merely fascinated, I was entranced by Entrepreneurship and the thrill of trying to implement new systems and new ways of conducting business on my own (give or take a couple of hundred co-founders, investors, employees, partners and customers). I became a technology entrepreneur, and had numerous successes and failures.

Many exciting adventures later, I found myself older, wiser, and with a wife working on Wall Street. I relocated to the Big Apple, with the goal of joining a quantitative fund, and started this blog.

Readers of this blog will know me as Entropy, my long held nom de guerre.

Entropy is an elegant concept which refers to the amount of information, or uncertainty, or chaos present in a system. Entropy is a vital concept in fields as diverse as astrophysics, cryptography and thermodynamics. If you are willing to fudge some slight details, it can be shown that the versions of entropy used by these disparate fields, are actually equivalent. The entropy which bounds the size of a black hole‘s event horizon is mathematically equivalent to the entropy which measures password strength.

On a baser note, it has often been remarked that entropy’s staring role in my life goes far beyond my research interests, so it was quite natural for me to choose it as a handle.

The title of this blog, “Entropy Goes to Wall Street”, has two deliberately conflicting meanings.

On the one hand, it is a reference to the classic Frank Capra film Mr. Smith Goes to Washington, about a naïve man who is appointed United States Senator. This blog will approach the subject of quantitative finance from the perspective of a newcomer. I am not unaware of the fact that countless very smart individuals have already undertaken their own quantitative analyses of financial markets (with various degrees of success). But I believe that some insights are more likely to be discovered when examined through the fresh eyes of an enthusiastic novice, than through the jaded eyes of a Wall Street veteran.

On the other hand, Wall Street is entropy’s natural habitat. Since 1792, through markets bull and bear, entropy in all its forms (information, uncertainty and chaos) has reigned supreme. Saying “Entropy Goes to Wall Street” is like saying “Fish Goes to Water”. While the culture on Wall Street may be very different from that of a technology startup, I expect to fit in here every bit as well as well as my namesake, and my blog’s title is an expression of that confidence.

In my next post, titled “Cognitive Dissonance”, I will discuss a different set of simultaneously held yet conflicting ideas; one which is of central importance to this blog’s subject matter.

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Welcome!

Welcome to Entropy Goes to Wall Street.

This blog will chronicle the efforts of a Wall Street newcomer to understand and predict financial markets through the application of quantitative techniques.

Readers should expect posts that are focused, informative, entertaining and mathematically grounded.

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Plans Within Plans

1000 Year Plan - Ted GoffThis blog will be our shared adventure: An account of how, despite venturing over some very well trod mathematical terrain, we manage to blaze a new and highly productive trail.

Or at least, that’s how I would like things to turn out. I don’t really know.

Adventures are exciting precisely because they are unpredictable. The best parts of an adventure are usually those elements which were least foreseeable at the outset.

The well prepared adventurer understands this, but he nonetheless packs a map and charts a path. He then maintains good humor when circumstances inevitably force him to abandon that path and improvise.

It is in that same spirit that I lay out my plan of attack for this blog:

Our first few forays into the financial data stream will use daily historical data for S&P 500 equities. Using this data we will:

  • Systematically assay the data’s statistical properties
  • Attempt to isolate individual equity signals from broader market signals
  • Transform the signals so they are more receptive to analytic methods, and
  • Derive a model from first principles which attempts to explain our observations.

We will then add historical options data, and attempt to determine whether any identified market inefficiencies can be translated into viable trading strategies.

Throughout this journey, I will declaim with great passion against the main villain of this blog: spurious signals. I will denounce methodologies that have a tendency to produce spurious signals. I will then use handwaving to justify my use of those same methodologies when I determine them to be the best available option.

Readers should expect occasional detours to address other questions of interest. These may include:

  • Under what conditions of performance is investing in an Alpha generating hedge fund a good idea?
  • How have the statistical properties of the market evolved over time?
  • Is there a firm basis for attributing observed changes in market dynamics?

While I can’t guarantee definitive answers, I do promise an adventure.

But first, a few introductory posts are in order.

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