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Hollow Men, Hollow Markets, Hollow World

April 2, 2014

I’m sitting in the British Airways lounge at Heathrow terminal 5, or in other words in my usual office, and trying to catch up on my reading. I was particularly intrigued by my good friend and economic philosopher Ben Hunt’s latest Epsilon Theory post, which he calls “Hollow Men, Hollow Markets, Hollow World.” As he points out, an increasingly smaller portion of trading in the markets is between individuals looking to actually own a fractional portion of a public company for the long term. Instead, trading is gravitating to machines competing with each other in milliseconds and for a profit of milli-cents. 

I get the rationale behind the supposed benefits of high-speed trading; but I have to confess, I just don’t buy it. If it was just another way to truly profit from normal commercial activity, I would pretty much have a hands-off attitude. But from everything I can see, high-speed trading is sucking billions of dollars out of the market that would otherwise go to individuals and institutions who are actually there to serve what was once the purpose of Wall Street: to provide new companies with capital and individuals with the chance to participate in the growth of the country. High-frequency trading is a zero-sum game. It takes money from “us” and gives it to funds with instant access to the exchanges.

The fact that high-frequency trading does not work half a mile across the Hudson River because even that short distance slows down the transactions too much, is testimony to the fact that something is truly out of whack. When the speed of light is a barrier to entry, you know we have entered a new era. I am not one to stand in front of the accelerating wave of technology and cry “Stop!” I am rather simpleminded, and it seems to me that if you simply instituted a rule that all buy and sell offers have to at least exist for an outrageous amount of time like one half second, that it would at least begin to level the playing field. The fact that large institutions are gravitating to exchanges where high-frequency trading is not allowed is evidence that the deck is stacked against the smaller investor. A point here and a point there, and pretty soon you’re talking real money.

But in today’s OTB, Ben Hunt doesn’t really focus all that much on high-frequency trading but rather on the fact that so much of economics and investing itself is hollow. Our job, he says, is to find the signal amidst all the noise. This is an Outside the Box that you will need to think through as opposed to merely read.

They will be calling my flight to South Africa in a few minutes. I’ve been thinking back over the ten times or so that I’ve flown to South Africa in the last 20 years. I first went there in the apartheid era. The moods in the country seem to shift with each visit. I can remember talking with people who were sure that South Africa would become the next Zimbabwe. “Apocalypse Now” could certainly describe the mood of those times. And then there are times when there is an optimism so intense it is hard not to get infected. I wonder how South Africa will feel this time.

South Africa really is one of my favorite countries in the world. I think my vote for most beautiful city would have to go to Cape Town (although I admit it comes down to personal taste, as there are quite a few spectacular harbor cities dotted around the world). If the weather permits, I will take my first hot air balloon ride. I’ve tried three or four times over the years and always had bad weather postpone my flight. Flying over the African savannah, looking down on lions and elephants, antelope and rhinoceros, zebra and giraffe sounds rather idyllic. I need to enjoy my time at Kruger National Park, because my hosts have put together a rather aggressive schedule for next week. Even so, I will get to meet scores of South African businesspeople and investors and hopefully gain a renewed sense of where one of the more important countries in the world is heading. I will report back from the frontlines. Until then, have a great week.

Your ready to be in a real bed analyst,

John Mauldin, Editor
Outside the Box

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Hollow Men, Hollow Markets, Hollow World

Apocalypse Now (1979), based on “Heart of Darkness” by Joseph Conrad

Kurtz: Did they say why, Willard, why they want to terminate my command?

Willard: I was sent on a classified mission, sir.

Kurtz: It's no longer classified, is it? Did they tell you?

Willard: They told me that you had gone totally insane, and that your methods were unsound.

Kurtz: Are my methods unsound?

Willard: I don't see any method at all, sir.

Kurtz: I expected someone like you. What did you expect? Are you an assassin?

Willard: I'm a soldier.

Kurtz: You're neither. You're an errand boy, sent by grocery clerks, to collect a bill.

It is my belief no man ever understands quite his own artful dodges to escape from the grim shadow of self-knowledge.

The question is not how to get cured, but how to live.

Joseph Conrad (1857 – 1924)

Billions of dollars are flowing into online advertising. But marketers also are confronting an uncomfortable reality: rampant fraud.

About 36% of all Web traffic is considered fake, the product of computers hijacked by viruses and programmed to visit sites, according to estimates cited recently by the Interactive Advertising Bureau trade group.

–   Wall Street Journal, “The Secret About Online Ad Traffic: One-Third Is Bogus”, March 23, 2014

Over the last decade, institutional management of equity portfolios has increased from 54% to 81%. ...

Institutional buys and sells accounted for 47% of trading volume between 2001 and 2006, but only 29% of trading volume since 2008. ...

One of the most significant results of the tension between fewer market participants and larger parent order sizes is that the share of ‘real’ trading volume has declined by around 40% in the last five years.

–   Morgan Stanley QDS, “Real Trading Volume”, Charles Crow and Simon Emrich, April 11, 2012

I first saw Apocalypse Now as a college freshman with two roommates, a couple of years after it had been released, and I can still recall the dazed pang of shock and exhaustion I felt when we stumbled out of the theatre. Nobody said anything on the drive back to campus. We were each lost in our thoughts, trying to process what we had just seen. Our focus was on Marlon Brando’s Col. Kurtz, of course, because we were 18-year old boys and he was a larger than life villain or anti-hero or superman or ... something ... we weren’t quite sure what he was, only that we couldn’t forget him.

When I reflect on the movie today, though, I find myself thinking less about Kurtz than I do about Martin Sheen’s Capt. Willard. Both Kurtz and Willard were self-aware. They had no illusions about their own actions or motivations, including the betrayals and murders they carried out. Both Kurtz and Willard saw through the veneer of the Vietnam War. They had no illusions regarding the essential hollowness of the entire enterprise, and they saw clearly the heart of darkness and horrific will that was left when you stripped away the surface trappings. So what made Willard stick with the mission? How was Willard able to navigate within a world he knew was playing him falsely, while Kurtz could not? I don’t want to say that I admire Willard, because there’s nothing really admirable there, and this isn’t going to be a web-lite note along the lines of “Three Things that Every Investor Should Learn from Apocalypse Now”. But there is a quality to Willard that I find useful in recalling whenever I am confronted with hard evidence that the world is playing me falsely. Or at least it helps keep me from shaving my head and going rogue.

The WSJ article cited above – where it now seems that more than one-third of all Web traffic is fake, generated by bots and zombies to create ad click-throughs and fake popularity – is a good example of what I’m talking about. One-third of all Web traffic? Fake? How is that possible? I mean ... I understand how it’s technologically possible, but how is it possible that this sort of fraud has been going on for so long and to such a gargantuan degree that I don’t know about it or somehow feel it? I’m sure that anyone in e-commerce or network security will chuckle at my naïveté, but I was really rocked by this article. What else have I been told or led to believe about the Web is a lie?

But then I remember conversations I have with non-investor friends when I describe to them how little of trading volume today is real, i.e., between an actual buyer and an actual seller. I describe to them how as much as 70% of the trading activity in markets today – activity that generates the constantly changing up and down arrows and green and red numbers they see and react to on CNBC – is just machines talking to other machines, shifting shares around for “liquidity provision” or millisecond arbitrage opportunities. Even among real investors, individuals or institutions who own a portfolio of exposures and aren’t simply middlemen of one sort or another, so much of what we do is better described as positioning rather than investing, where we are rebalancing or tweaking a remarkably static portfolio against this generic risk or that generic risk rather than expressing an active opinion on the pros or cons of fractional ownership of a real-world company. Inevitably these non-investor friends are as slack-jawed at my picture of modern market structure as I am when I read this article about modern Web traffic structure. How can this be, they ask? I shrug. There is no answer. It just is.

My sense is that if you talk to a professional in any walk of life today, whether it’s technology or finance or medicine or law or government or whatever, you will hear a similar story of hollowness in their industry. The trappings, the facades, the faux this and faux that, the dislocation between public narrative and private practice ... it’s everywhere. I understand that authenticity has always been a rare bird on an institutional or societal level. But there is something about the aftermath of the Great Recession, a something that is augmented by Big Data technology, that has made it okay to embrace public misdirection and miscommunication as an acceptable policy “tool”. It’s telling when Jon Stewart, a comedian, is the most authentic public figure I know. It’s troubling when I have to assume that everything I hear from any politician or any central banker is being said for effect, not for the straightforward expression of an honest opinion.

The question is not “Is it a Hollow World?”. If you’re reading Epsilon Theory I’m pretty sure that I don’t have to spend a lot of words convincing you of that fact. Nor is the question “How do we fix the Hollow World?” Or at least that’s not my question. Sorry, but being a revolutionary is a young man’s game, and the pay is really bad. More seriously, I don’t think it’s possible to organize mass society in a non-hollow fashion without doing something about the “mass” part. So given that we are stuck in the world as it is, my question is “How do we adapt to a Hollow World?” As Conrad wrote, the question is not how to get cured, but how to live. How do we make our way through the battlefield of modern economics and politics, a world that we know is hollow and false in so many important ways, without losing our minds and ending up in a metaphorical jungle muttering “the horror, the horror” to ourselves?

Two suggestions for adapting to the Hollow Market piece of a Hollow World, one defensive in nature and one for offense.

On defense, recognize that modern markets are, in fact, quite hollow and everything you hear from a public voice is being said for effect. But that doesn’t mean that the underlying economic activity of actual human beings and actual companies is similarly fake or bogus. The trick, I think, is to recognize the modern market for what it IS – a collection of socially constructed symbols, exactly like the chips in a casino, that we wager within games that combine a little skill with a lot of chance. There is a relationship between the chips and the real-world economic activity, but that relationship is never perfect and often exists as only the slimmest of threads. The games themselves are driven by the stories we are told, and there are rules to this game-playing that you can learn. But it’s a hard game to play, and it’s even harder to find a great game-player who will bet your chips on your behalf. A better strategy for most, I think, is to adopt an attitude of what I call profound agnosticism, where we assume that ALL of the stories we hear (including the narratives of economic science) are equally suspect, and we make no pretense of predicting what stories will pop up tomorrow or how the market will shape itself around them. What we want is to have as much connection to that underlying economic activity of actual human beings and actual companies as possible, and as little connection as possible to the game-playing and story-telling, no matter how strongly we’ve been trained to believe in this story or that. I think what emerges from this attitude can be an extremely robust portfolio supported by more-than-skin-deep diversification ... a portfolio that balances historical risks and rewards rather than stories of risk and reward, a portfolio that looks for diversification in the investment DNA of a security or strategy as well as the asset class of a security or strategy.

On offense, look for investment opportunities where you have information that reflects an economic reality at odds with the public voices driving a market phenomenon. This is where you will find alpha. This is where you can generate potential returns when the economic reality is ultimately revealed as just that – reality – and the voices shift into some other story and the market matches what’s real. These opportunities tend to be discrete and occasional trades as opposed to long-standing strategies, because that’s the nature of the information beast – you will rarely capture it in a time and place where you can act on it. Almost by definition, if the information is being generated by a public voice it’s probably not actionable, or at the very least the asymmetric risk/reward will have been terribly muted. But when you find an opportunity like this, when you have a private insight or access to someone who does against a market backdrop of some price extreme ... well, that’s a beautiful thing. Rare, but worth waiting for.

I’ll close with a few selected lines from TS Eliot’s The Hollow Men, because I’m always happy to celebrate a time when poets wore white-tie and tails, and because I think he’s got something important to say about information and communication, authenticity and deception.

Between the idea

And the reality

Between the motion

And the act

Falls the Shadow

What is the Shadow? I believe it’s the barrier that communication inevitably creates among humans, including the mental barriers that we raise in our own minds in our internal communications – our thoughts and self-awareness. Sometimes the Shadow is slight, as between two earnest and committed people speaking to each other with as much authenticity as each can muster, and sometimes the Shadow is overwhelming, as between a disembodied, mass-mediated crowd and a central banker using communication as “policy”. Wherever you find a Shadow you will find a hollowness, and right now the Shadows are spreading. This, I believe, creates both the greatest challenge and opportunity of our investment lives ... not to pierce Eliot’s Shadows or to succumb to Conrad’s Heart of Darkness in our hollow markets, but to come to terms with their existence and permanence ... to evade their influence as best we can, all the while looking for opportunities to profit from their influence on others.

Discuss This


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April 13, 2014, 8:35 p.m.

Thank you, Mr. Hunt (and Mr. Mauldin for bringing this to me). You have changed my world view.

Yes, I’ve always known that the investment media is simply about churning out the story, the explanation about the markets. The first investment channel I started reading and studying was the Wall Street Journal. There was this daily 8 paragraph article that attempted to explain why the market moved in a particular direction the day before (yes, it was a pre-Internet newspaper). And each explanation seemed almost as arbitrary as the previous ones. After studying diligently for two years, I discovered that a good jobs report (just to take one metric) could a) cause the stock market to go up because of the expected boost in consumer spending; or b) cause the stock market to go down because the Fed will tighten the money supply. No one could predict what a positive jobs number would do until the market closed, and then—with perfect hindsight—the explanation would be provided.

It’s like waking up from the Matrix: “Welcome, to the real world.” And once you get back in, you see it from an orthogonal viewpoint.

Re: “I don’t think it’s possible to organize mass society in a non-hollow fashion without doing something about the “mass” part.” Yes, what to do with the masses. Just like the Matrix, you can only wake them up one at a time. And you’d better have a plan for how each one fits into the New World Order.

The main point I got from this is to do my own research “on the ground”, based on real events. Unfortunately, it will be a few years before I can afford to do that anywhere but in the U.S.

Thank you again.

Ronald Nimmo

April 8, 2014, 8:08 a.m.

We do face a tidal wave of illusion-creating and image-spinning. But I think that the movie Apocalypse Now was a pretentious hot-air balloon that was so obscure in every way that it expressed itself that people just thought it must be great because they couldn’t make any sense out of it. The real reason that that they couldn’t was that it didn’t make any sense. It was completely hollow but so inflated with self importance that gullible viewers thought that all that gaseous volume must be a measure of it’s richness of content and meaning. To me it epitomized the very quality which you are warning us about in the world. But your overall theme is much more important than what I believe is your misplaced awe of Apocalypse Now.

Jason Storey

April 4, 2014, 3:43 a.m.

I have a question about the HFT that somebody may be able to answer for me. I understand that one aspect of it is that the rights to place trades in the market are being bought and then those market orders are being front run to create profits for the people placing those bets. This is obviously market manipulation. However, what will the alternative be? Will I have to pay more to place trades since my broker placing my trade won’t be able to make a profit selling my order to somebody else?  Will the fees charged on the ETF’s in my 401k increase as well?  On the subject of price, I personally think the $10 commissions I pay eTrade to place my order is an absolutely ridiculous price. Everything is electronic.  This same price is payed whether I am buying 1 share or 10,000 shares.  Maybe an FBI needs to be opened to investigate this activity as well.


April 3, 2014, 10:58 a.m.

A lot of it’s greed and illegal acts, but no one in authority will stop it, except for token punishment.  An excellent article.


April 3, 2014, 2:51 a.m.

A financial Casimir Effect:

I don’t see the problem with high speed trading. 

Maybe some readers of this column are familiar with “vacuum energy” the virtual energy that’s supposed to pervade all of “empty” space.  It manifests as virtual particles that pop into and out of existence in less than 10¯43 seconds (Planck time). This phenomenon would ordinarily violate the rules of causality but because it happens in such a short period of time that it doesn’t (for reasons that I can’t fully understand, but physicists seem happy enough to go along with the idea).  Vacuum energy has actually been proven to exist and has been measured as the Casimir Effect.  One idea for the origin of the universe is that this process got a little out of hand at one point (literally) and instead of popping back out of existence, some virtual particle just kept going, crossed Planck time, became “real” and acted like a nucleating grain for the Universe.  People have speculated that, if we could find some way to tap into the vacuum energy, we could have an unlimited, universal, and essentially free source of energy forever. The second Ultimate Free Lunch (the universe being the first).  This is the closest any legitimate physicist gets to suggesting that perpetual motion might have some basis in reality. That idea is pretty standard reading in popular physics nonfiction these days; any mass-market book on theoretical physics will have a discussion on the subject.

My flash of insight involves the realization that this idea of tapping into the “vacuum energy” can be applied to the stock market – in fact it has been, by the geniuses at the largest trading houses.  These guys have discovered that by making “high-frequency” stock trades, that is by trading the same stock several hundred times a minute using individual trades that take place in (literally) micro or even nano (as in one-millionth) seconds they can take advantage of what are essentially random “wiggles” of tiny fractions of a cent in a stock price.  It doesn’t matter what the stock is or its “real-time” direction is, long as there is “enough” trading volume to cause “wiggles” in the stock price and make those tiny fractions of a cent add up.  These guys can milk even doggy stocks like AIG or Fanny Mae or Freddy Mac for $5000 or $10,000 a day without having to worry about anything even remotely connected to market fundamentals or technicals.  The trick is to have very fancy and efficient trading algorithms and high-speed computer trading equipment – obviously not available to the average day-trader on his Mac or PC.

The question is, is this like the “Ultimate Free Lunch” imagined in my analogy with elementary particle processes that those that take place below the Planck time limit?  When these guys extract that tiny fraction of a cent (this ought to work on the short side too) does that actually cost somebody else anything?  If we could find a way to expand the process enough we could finance virtually (no pun intended) every budget –private or public – in the country, indeed the world! 

I suspect there’s a catch here somewhere however, since there’s now an “arms race” among the large firms that engage in this practice to develop faster and faster trading mechanisms.  If you’re too slow, you start to lose out because someone else can grab that tiny bit of profit and you have to wait (how long?) for that next tiny wiggle.  The eventual solution might be to drive the trading time below a financial “Planck Limit” at which point the trade becomes “virtual” and doesn’t really cost anybody anything!  The Ultimate Financial Free Lunch.

I realize that the profit of such virtual trades might be virtual as well, but why ruin a great fantasy.  Besides, the idea would be to get the profits to add up so they can be measured in real time and space just like the Vacuum Energy A financial Casimir Effect!.  And once you can measure them, you can move them around, spend them (or tax) them.  Everybody wins!

It’ll be a new Golden Age!


April 2, 2014, 8:50 p.m.

This one was really good.  I particularly like how this topic transcends economic matters.


April 2, 2014, 6:59 p.m.

Until the Courts start upholding the Laws as they concern the 16 million possibly (probably) illegal foreclosures, this Country is on a slow ride down the tube. 16M foreclosures = 32 Million bad credit ratings, it also means a land title system (upon which ALL property law emanates) that no longer contains the truth… it also shows the entirety of the population just how corru0pt both the Banks and their minion (our Govt.) are. This has been this way for a long time, but never with such open and brazenly arrogant vulgarity. And now out courts are being shown for what they truly are too… pawns of the money machine. Our markets rely on trust… and now we know there is none. Now we know what there is, is just theft. I don’t believe the mood is hollow… I see more reserved rage.


April 2, 2014, 5:10 p.m.

It is so refreshing to read something thoughtful from an educated writer who assumes his readers are educated, too. I do not agree with the libertarian ideas in previous posts, but this one is wonderful. Thanks for sharing!


April 2, 2014, 1:33 p.m.

Writing from the UK, I have had the same feeling for many years. I think it began with the education system changes where everyone got a certificate, even when they could hardly write their name. Then it went on to hospitals staffed with box-tickers who forgot about the patients welfare. Then companies with customer service departments whose job was not to provide any customer service (to save money). The list goes on until I am surprised when I encounter someone who actually cares and does a good job.