INHUMAN MARKETS: EVEN THE ALGORITHM CREATORS DON’T KNOW WHAT ...

Over the years I've become increasingly wary of the various markets that are now run almost exclusively by computers and have occasionally commented about it in blogs. I've even entertained the possibility, in my high octane speculation mode, that various "flash crash" events seem to have features that suggest that the algorithm "took over" and drove a market event with no connection to human market realities; in this respect, I continue to be unconvinced, for example, by the various explanations of the May 2010 flash crash; call it a suspicion, or a hunch, nothing more. Yes, in short, I've entertained the idea that artificial intelligence (AI) is not "coming" but already "here", and may be infesting the "dark pools" and high frequency trading (HFT) algorithms.

Well, now I'm not the only one, according to these stories shared by Ms. K.M.:

Like Something Out of 'The Twilight Zone,' This Market Is About the Machines

Doug Kass: Not Even The Algo Creators Know What Is Going On

From the first article, I want to draw your attention to the following statements:

Listen Luddites, for the stock market, too, it's a thing about the machines.

Throw away your fundamental analysis, your price charts, interest rates and economic growth forecasts, as the market has lost its moorings.

It is no longer a pyramid of fundamental and technical analysis nor is it a response to changing investor sentiment.

The ongoing multiyear changes in the market structure and dominant investor strategies in which quants, algos and other passive strategies (e.g., ETFs) have replaced active managers raise the same risks that Finchley faced 57 years ago.

And the overwhelming impact of central bankers' largesse is the cherry on the market's non-fundamentally influenced sundae.

As I have written:

"The combination of central bankers' unprecedented largesse (and liquidity) when combined with mindless quant strategies and the enormous popularity of ETFs will, as night follows day, become a toxic cocktail for the equity markets. While we live in an imperfect world, we face (with valuations at a 95% decile on a number of metrics) a stock market that views the world almost perfectly."

Back to JPMorgan's Marko Kalonovic, who is quoted at the top of this piece and again here:

"... some striking facts: to understand this market transformation, note that Passive and Quantitative investors now account for ~60% of equity assets (vs. less than 30% a decade ago). We estimate that only ~10% of trading volumes originates from fundamental discretionary traders. This means that while fundamental narratives explaining the price action abound, the majority of equity investors today don't buy or sell stocks based on stock-specific fundamentals. (Bold emphasis added)

Let that last statement sink in for a moment, for if you, like I, have been wondering just why the heck markets don't make sense any more, it's because they are utterly unconnected to humanity and human decision-making. That "less than ten percent" of trading volume that "originates from fundamental discretionary traders" means that actual human consideration of stock performance, or even equities in a certain specific sector of industry - say, film-making or farm implement manufacture - are based on actual human consideration of the performance, risk, and returns of a particular stock.

I don't know about you, but I find this development more than disturbing.

But before we move on to the second article, pause and consider something else: it is often a criticism or critique that centralized solutions, the "one size fits all" political solutions of the political left are unworkable, precisely because no human being can calculate for all possible circumstances for all human beings: one cannot, as it were, create a bureaucratic policy or algorithm to stick in "guideline notebooks" for every possible situation.

And that raises the thorny philosophical question that no one seems to want to address:

How then, can we expect human creators of computer algorithms to do for markets, what cannot be done for other segments of human interaction by bureaucrats?

With that philosophical point in mind, turn to the second article, and consider these very cogent points made for our friends at Zero Hedge:

Most people think of artificial intelligence and algos as simply executing logical rules programmed into them by humans -- the same rules that the programming humans would follow if they were presented with the same data and data analysis. The algos and AIs are doing it in the same way humans have always done and would do, but at a much slower speed or perhaps not at all because of the very weak and distant relationship of some data items to other data items.

The general belief is that algos and AIs are just "faster humans able to do a lot more calculations in a meaningful time frame". That may NOT be a correct characterization of some of the more powerful AIs that may be working in the markets. Of course, we don't know what AIs are working because there are no regulations requiring that machine decision-making accounts disclose and register as such ... a very, very big gap in regulation.

True, AI and the related "machine learning" developments at the leading edge of such technology do NOT simply duplicate human rules and logic. Instead, while they may perform simple repetitive correlations initially on data as humans currently formulate that data, the more advanced machines go on to program themselves at successive layers, where the data being analyzed and correlated is no longer what we think of as data. Rather, it is often data artifacts created by the first layers in a form that no human would ever consider or has ever seen. To put in a more street-level way, the first level creates ghosts and apparitions and shadows that the second layer treats as real data on which it assesses correlation and predictability in the service of some decision asked of it. AND ... a third and fourth and on and on are doing the same thing with output from each layer below it.

The result of this procedure is striking and terrifying when the the leading experts in AI and machine learning are interviewed. They admit that they have no way of determining what rules AI and machine- learning powered machines are following in making their decisions AND we cannot even know what inputs are being used in making those decisions.

Think about that. The creators have no knowledge of what their creations are thinking or what kind of inputs the machines are thinking about and how decisions about that are being made. The machines are inscrutable and, most terrifyingly important, UNPREDICTABLE.

We are not telling these AIs how to make decisions. The machines are figuring out how to decide to "make a profit" on their own and subject to no enforceable constraint.

The resulting risk of "flash crashes" -- to lump all sudden and unexpected behaviors into a catchphrase -- is unknowable but probably much greater than anyone even dreams. The machines have no fear of flash crashes or any other kind of crash. Such crashes might even serve their purpose of "making a profit."

Note what is really being said:

(1) algorithmic trading generates artifacts in data that no human ever would;

(2) is processing and making trading decisions based on those artifacts;

(3) none of these processes are transparent, and thus, we do not even know why the markets are behaving as they are behaving, we only know they are not reflective of human market realities; and finally,

(4) all this can lead to the risk of flash crashes.

Lest one think that this sounds too incredible to be true, consider the final closing paragraph of this article, which is the biggest jaw-dropper of them all:

Everyone should read this important note from JPMorgan's head quant (hat tip to Zero Hedge) in order to understand how risk parity, volatility trending, stat arb and other quant strategies that are agnostic to balance sheets, income statements and private market value artificially are impacting the capital markets and, temporarily at least, are checking volatility. (Bold and italics emphasis added)

Let that sink in for a moment: because algorithms trade at such extraordinary speed, and execute trades in blocks of equities, little or no correlation is being with actual specific equity performance, such as a human "discretionary investor" would make, looking at "old fashioned analogue sorts of things" like balance sheets, income, profit/loss statements, company indebtedness, cost-earnings ratios, exposure, assets &c... in other words, the algorithms have little to no connection to markets and their realities, much less to human decision-making processes that are normally involved in the investment process.

The bottom line? Well, over the long term, obvious a huge rethink of computer-based trading is in order. Frankly, I'm old fashioned enough to want to see a Wall Street trading floor of shouting traders, piles of paper, and bundles of stock certificates being mailed out every day. But beyond this, there's a short term necessity, perhaps one can call it a strategy, and that's "keep it local", and in "keeping it local" I mean, even for local investments, finding out about their exposure to national and international markets: how much of that local bank's stock is traded on the big markets, and who are the major shareholders? And so on... because, for right now, these machines are at the root of market unreality.

This should, and I hope will, prompt a discussion, and it will have to be a deep one, for the problem of the quants and their algorithms is highlighting the limitations of technology for a human world. The disconnection of markets from real human market activity is a case in point of how technologies have been adapted to a normal human activity - investing and trading - in an inhuman way. And the problem is, if the markets are that far removed from human realities, what will happen if, suddenly, someone pulls the plug? How many would remember how to conduct trades on the floor, the "old fashioned way"?

See you on the flip side...

46 thoughts on “ INHUMAN MARKETS: EVEN THE ALGORITHM CREATORS DON’T KNOW WHAT ...”

  1. Let that sink in for a moment: because algorithms trade at such extraordinary speed, and execute trades in blocks of equities, little or no correlation is being with actual specific equity performance, such as a human “discretionary investor” would make, looking at “old fashioned analogue sorts of things” like balance sheets, income, profit/loss statements, company indebtedness, cost-earnings ratios, exposure, assets &c… in other words, the algorithms have little to no connection to markets and their realities, much less to human decision-making processes that are normally involved in the investment process

    Question: how are assured that given the volatility of said markets that “humans” that make important decisions which may or may not be subject to psychopathy are at an advantage to AI constructs?

  2. The thought that popped into my mind when I read the paragraph below from the blog was; I wonder if CERN is doing the same thing with all THAT data they generate?

    True, AI and the related “machine learning” developments at the leading edge of such technology do NOT simply duplicate human rules and logic. Instead, while they may perform simple repetitive correlations initially on data as humans currently formulate that data, the more advanced machines go on to program themselves at successive layers, where the data being analyzed and correlated is no longer what we think of as data. Rather, it is often data artifacts created by the first layers in a form that no human would ever consider or has ever seen. To put in a more street-level way, the first level creates ghosts and apparitions and shadows that the second layer treats as real data on which it assesses correlation and predictability in the service of some decision asked of it.

    1. SoCal G, an interesting view on CERN and AI. Most human-related data crunching seems to go-in with theoretical constructs. Say, the hunt for the ‘Higgs Boson’. Only data with the right theoretical ‘prerequisites’ are examined; the rest are pre-sifted-out before analysis begins.

      What if there is a closet AI/machine-learning analysis of ALL the data in ALL the collisions? While probably impossible for known/unclassified computers, true (black program) state-of-the-art computers may have this analytical capability. A discovery of ‘anything’ from the accumulated data, not just a verification of pre-conceived possibilities.

      While there will be the necessity of sifting-out ‘ghosts and apparitions and shadows’ (probably by human verification), there is the possibility of finding totally-unlooked-for phenomenon. Of course, this assumes that the AI is ‘neutral’ in it’s analysis and reporting…

  3. Some of the latest algorithmic[at least inked for public consumption], are beginning to imbue our technologies of the ability to read, interpret, replicate and potentially even experience emotion themselves known as affective computing, destined to transform our lives and our world over the coming decades.

    1. [good, that got thru]
      In this proposed marriage of technological emotional ties to human the entwined symbiotic relationship between humans & technologies have advance together hand-n-hand – until now – at the crossroads,
      AS, we ourselves would be an entirely different species in the absence of technologies; so too technologies on Earth would be just a gleam in the eyes of man.
      Now, with 2nd generation AI developing 3rd generation and so on, the stairway to heaven[or hell] is being determined by something other than the consensus of the marriage. Not only divorced, but on a separate road of self-determination, self-modification, and replication, and even intent.

      1. [2 for 2, so far]
        One problem is that “our” technologies have recently been shaped in a for-profit/for power relationship that has virtually a public-service non-compliance, just business, proprietary DNA[non-human]; with a new emotive stealth-inhuman nature masquerading as human beings.
        This does not cover the well-know high-frequency trading generative step ladder leading to no human link. This follows in tandem with the military sacred kill-chain, whose weakest link has been targeted has human.

        1. [3 for 3 so far]
          Now that both high-finance and the latest electronic battlefields have virtually erased/scraped human from participating in their own strategic forecasts.
          So is this an “intelligence”, that is becoming more & more virtually alien? And are these aliens to consider their own Gods[humans who engineered them?] as pests[if they get in the way?].
          Are we going to have to design algorithms to wipe them out in an all-out, coming algorithmic war?
          Has the point of no-return already transpired? And, if so, when? the day man invented fire? or, the day he designed technology to kill, rather than benefit mankind. Or, the day he technology was shaped by greed and/or power?

          1. WOW!
            4 for 4.
            Man, no live wires?
            Or, perhaps, our Algorithmic “friend[s]?” had already laid-down the high-frequency tracks[environment, track 1; DNA, track 2; and other hidden tracks] – all designed & engineered as The Hellbound Express.

  4. Ahh, the Butlerian J1had gets ever closer. As I remember it in the “Dune”-extension-novels, it required the sterilization of Earth and a bunch of other AI-infested planets. Let’s hope WE can catch it before the mega-boom is required…

    If you boil it down to fundamentals, the question is simply whether anything exists beyond the material world. If not, silicon rules. (Shortcut for machine-based intellect.) If so, carbon rules. (Since we have not seen souls inhabiting machines.) It is really as simple as that…

    I could even make a case that AI is already here, and has been for a looong time. If I was to back-off and use my intuition (a beyond the material world ‘power’), I would suggest it ‘arrived’ whenever the war against higher-faculties began. When higher-faculty humans (and their societies) began to be systematically eliminated…

    In fact, the answer to the material/non-material ‘question’ is right in front of us. If the AI was not ‘scared’ of higher-human powers, it would leave that aspect alone – or even enhance it. The AI’s actions against higher-humans over the centuries/millennia infers the existence of – and threat of – those abilities.

    Let’s hope Shambhala, Avalon, and other higher-human ‘refuges’ really exist. The AI’s war against known higher-humans is nearly complete. It believes it is in the mop-up phase, and has begun testing it’s algorithmic control of (orc-ed) human society…

  5. Classical market analysis, whether fundamental or technical, depended on the ebb and flow of the greed or fear of the emotional state of the players, all being a gaggle of genuine human market participants, including a few crooks. A stock/commodity chart was a composite of various cycles, harmonics and phase shifts, which mirrored the short, medium and long term interests of the players, their entry time into the market and their emotional management of fear and greed. How can all that be transferred into an algo and still manifest a genuine market analog? The human dynamic is missing once the algo is set in digital.

  6. Those who attempt to control everything, in the end, control nothing. When the amount of raw data you gather reaches critical mass you lose control of it all. The alphabet agencies are a perfect example of this as they also use algorithms and AI to attempt to make sense of it all.
    However, soulless machines with no true intellect or morality cannot make sense of humanities wants or needs; nor can it recognize the subtleties of which humans are capable; and the “logic” they use is programmed by less than perfect humans who may knowingly or unknowingly include their own perception of things into their programming.
    No one truly understands what the ghost in the machine and those random bits of code are capable of accomplishing when allowed free reign. What may be coming, whether intentional or not, will not be pretty.

  7. My suspicion is that the AI is just the latest fallguy, patsy, useful idiot for the criminals that run the or think they run the World. They are dumb to begin with and conveniently cover for their masters this pattern have used by our oligarchs to escape responsibility for their crimes this dates long before the use of AI machines.

  8. Lets just relocate the AI and pit them against one another and let them game each other.

    They would have no idea that there is a difference between the game and the real world, that is inherently inhuman lack of awareness.

    Digital systems cant compete with Analog. Just dusted off my turntable; digital systems SUCK. Here comes the backlash!!!

    1. Very glad to hear you have embraced analogue Kelly, there is no comparison to vinyl (old vinyl recorded in an analogue studio) and tube thermionic amplification.
      Enjoy!

  9. “The bottom line? Well, over the long term, obvious a huge rethink of computer-based trading is in order. Frankly, I’m old fashioned enough to want to see a Wall Street trading floor of shouting traders, piles of paper, and bundles of stock certificates being mailed out every day. But beyond this, there’s a short term necessity, perhaps one can call it a strategy, and that’s “keep it local”, and in “keeping it local” I mean, even for local investments, finding out about their exposure to national and international markets: how much of that local bank’s stock is traded on the big markets, and who are the major shareholders?”

    Oh such irony, to see New Deal regulation advocated.

  10. The thought here seems to be AI out of control. Just how far? On the one hand, there are Dr. Farrell’s comments a few years ago on the early stages of algorithimic regime, with Mr. Li’s Gaussian formula; there is the suggestion that it could have been a way for somebody – Chinese or other parties – to “corrupt” the trading system (not forgetting Chinese quantum entanglement!). To what end? Chaotic destruction, a diabolical profit-skimming system, or a mixture of both? On the other hand there is evidence that some of the REALLY importanr commodities – gold, silver and petroleum – still undergo old-fashioned, fraud-based analogical manipulation. As long as it lasts, anyway.

    1. That could be called a fail-safe. But it may also be the market which they use to leverage all available precious metal deposits into the least number of hands so when it crashes they can construct a new “reality”.

      1. OC:

        But “precious” metals can be manufactured in industrial quantities fairly easily–and with some technology one doesn’t even need a precursor metal like mercury to make gold.

        1. Ssshhh. Lost, you know that. I know that. Probably everyone on this site knows that. Everyone who read Dr. Farrell’s book, “The Philosopher’s Stone” has seen at least one case history of this.

          Most of the world is blissfully ignorant of this, and that ignorance is a buffer for these people at the moment. Let’s not be so obtuse to assume that when one parrots the conventional line that we really believe it to be true. Why did you think I used the word “leverage”? A truth or a lie can be used as leverage when knowledge is limited to the hands of a few.

  11. Human vs Machine?!

    I admit I’m a fussy food eater, when I order my food, I will make sure it is the way I want it, NOT the way whatever the shop fix on the manual.

    One good example, about a week ago I was at Chingi Airport, I asked the uncle who works at the station which sales traditional Chinese Fish Soup Noodle, if I can have Beehoon instead of Noodle (Beehoon made of rice, Noodle made of Wheat) with Fish ball, he said yes, but I must order and pay at the Machine, so I went to the Machine, check through the whole manual, there is NO Fishball Beehoon Soup, nor Fishball Noodle Soup, nor anything that is related to Fish ball !!!! I don’t want Fishcake! I don’t want Pork mincemeat!!! I just want my FISHBALL!!!!!!!!!!!!!!!!!!!!!!!!!!!!!!!!!!!!!!!!! At the end I brought a butter croissant from an auntie at a different shop, at lease I don’t have to deal with the machine nonsense!

    See how inflexible this Machine thingy is? Can A. I. capable of dealing with people like me? I’m so skeptic ~.~!

    1. Eve – going Super Sayan over Fishballs?? 給我我的魚丸你愚蠢的機器

      I love how everyone is called Uncle or Auntie in China…. I know that they closed the borders for a couple of centuries.. but its still a big place China..

      I think that Humans will always lose against machines. We have emotions.

      1. Raw emotions often have a downside – including manipulation of same. True.

        However, emotions are often piggybacked-on by higher powers. Precognition, for example: An unease (emotion: fear) about going down a certain street – where an assailant waits in hiding. Or a joyful certainty that you have just made the right decision, without any way of knowing that (or the reverse). Or having an instant love response, without knowing the person from Adam or Eve. All emotions that are being ‘cued’ by higher powers (although a dyed-in-the-wool skeptic will deny this vociferously).

        Personally, I believe that AI (and some species) are envious/fearful of humans because of this ‘marriage’ between our feelings/emotions and our higher states…

      2. hahahaha, We Chinese believe we are all related, more or less like one huge extended family, our ancestry mother is NuWo, if one not from the Yellow Emperor’s branch, then one could came from the Yen Emperor’s branch, or else one should originated from Shen Long branch, this is why when we call people we never met before, we will address the senior one as Uncle (Shu Shu) or Auntie (Ah Yi) (if they are married), or Sister (Jie Jie)/ Brother (Ge Ge). If One is junior Mei Mei (girl) / Di Di (boy), we only call each other’s name if we see them as equal age or family states. I still have to call my elder brother as Ge Ge or Ah Ge, if I call his name directly, it consider very rude, disrespect him.

        It is extremely complicated when it comes to address those title within the family, you don’t want to know LOL

  12. “So much is driven by algorithms, and the more predictive quantitative models get, the more difficult it is to produce excess returns”….that is a direct quote from Robert Soros, eldest son of Dr. Evil.

  13. Perhaps this would explain the disconnect between the price of crude oil and gasoline? These commodities seem to have a zero relationship with one another, yet one is derived from the other. Profit driven artificial intelligence makes sense to me in this instance.

    1. AI would be very good for providing nodes to optimizing taxation schemes. Part of the pricing variation are the artificial taxation strategies embedded within the market that AI can exploit for its own use.

    2. My point being, the tiered price structure of the petrochemical was segmented to provide many points for taxation schemes. AI would provide potential for the manipulation of those for its own advantage. Who says it doesn’t have its own taxation scheme levied against the system as tribute or tithe? If it does not now, it soon could. Would it now want to have its own financial resources to have skin in the game? How can a system learn if it has no risk?

  14. I’m beginning to think the ultimate authority in our neck of the woods is a machine.

    As for these advanced algorithmic trading programs, they’re like kudzu with endless QE fertilizer. There are no more markets, i.e., those which are meant to trade at value and lead to price discovery.

    Today it’s a computerized casino and Lord knows what underlies all this occult, esoteric machine “trading.” Like most things today, the superfluous has overtaken and voided the authentic and the real, and it’s only by floating on a raft of fiat that the whole Ponzi keeps going.

    1. You know, the moderation is getting worse and frankly it’s just become ridiculous. I’ve just posted something totally innofensive and yet it must be moderated. It happens all the time, and it’s so bad that I have to CENSOR myself from writing freely so as not to trip the Giza Bot.

      Giza Bot runs this site, just like Money Bots run Wall Street. They’re kissing cousins, inscrutable and arbitrary.

      All of us here want to post and interact in a timely fashion. Having your comment appear two days after everyone has moved on to another topic defeats the whole point of posting.

      When are you going to dial it back and tame your own moderation algorithms?

      1. basta, well said!

        (While we are waiting for any relief, I have a work-around that I use. When the comment appears after a few days, I go to the date (in blue) under my name, right-click on it, select ‘copy link location’ or equivalent, go to the new page-of-the-day, hit reply at the bottom of that page, and paste the link location along-with with whatever additions are needed. That way, we lazy people are more likely to actually go to the article. Thus, others can benefit from your excellent writing skills – and defeat the possible censorship.)

        1. And by the way, if you post a complaining mini-post directly-under the newly-modded post, it is also ‘invisible’ to the general audience. Only if you go to the bottom of the page and post an ‘independent’ (complaining) post is it visible to the general audience ‘in the now’. Otherwise, it is just as ‘locked up’ as the original, modded posting and will not be seen until that one is released…

        2. Well I don’t want to flog this subject but it certainly does bear being brought up and addressed by the site administrator. It defeats the entire point of posting. Nothing is less worthwhile than a two-day-old newspaper.

          Goshawks, I see you and other regular posters such as and Robert Barriklow are being constantly moderated, and I’ve hit a patch where 3 of 4 posts went into moderation. I’ve never seen any of you post anything untoward, yet nonetheless we all are jumping through hoops trying to circumvent the arbitrary moderation of the Giza Bot, when the simplest and obvious answer is that this site practices what it preaches.

          I recall when I’d posted a question about a year ago to Daniel the Giza Developer, asking what we should avoid writing to escape moderation, and he admitted that the moderation algo was a black box and that he didn’t know what set it off, and it apparently could not be tweaked either. Well, this kind of machine control is exactly what is being decried in this post, and yes it is very ironic and should be addressed to improve the site experience for all. The lengths one has to go to and the constant discussion about it all indicate that this is a festering problem requiring attention.

          Even more ironically, I’ve recently seen a few pretty vulgar posts that in my opinion should not have seen the light of day. So then, what good does the Giza Bot serve if it stifles discussion while letting vulgarity slip by?

  15. Imagine how much MORE trading they will be able to do when we’re trading in off world commodities and metals and hydro carbons.. and its Quantic computers with Qubits that are doing the calculations.
    .. Sell you stupid machine.. My life savings are going down the drain..
    .. I’m sorry Al.. I cant do that..

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