Rethinking Markets

I was cajoled by Anthony Townsend to join the New York Academy of Sciences, and to meet him for a seminar on quantitative finance held there on May 16th. There were two speakers and a discussant, for a discussion about the relative value of behavioral finance and neo-classical finance. Terrance Odean took the former position, while Steve Ross took the latter.

Without reconstructing the talks, I was struck by three things. First, the action in this field seems to have devolved to a discussion of ‘anomalies’ – that is, are there empirical regularities that violate the assumptions of neo-classical finance. Not just ‘Are people irrational?’ but do people’s irrationality make markets inefficient? Calendar-year effects, small firm effects, and the like all loomed large. MacKenzie discusses this in Engine, and it was in full flower at this talk.

Second, arguing with these folks is going to be a long-term loser for economic sociology. Frankly, it’s a bit like an agnostic arguing with a fundamentalist. The agnostic says, ‘well, maybe so..I’m not sure’, while the fundmentalist says, ‘I know‘. Without a full-fledged replacement for neo-classical financial theory, economic sociology will have nothing to contribute to these debates. I’ll stake this here and now – in 5 years of economic sociology’s tilting against this windmill, we will find no change. None. Zero.

Finally, I did ask about performativity in the Q&A, more particularly, that they were all both practitioners and theorists (‘in the wild’ at times). The response was effectively that no one has enough capital to move the markets as much as MacKenzie might suggest statistical arbitrageurs would have to. In other words, Ross thinks that the secular reduction of anomalies over time (he cited a paper that suggests that anomalies’ ‘half-life’ have been shortening) are a function of the neo-classical theory being true, not that practitioners are more quickly exploiting the anomalies.

I think over time, anomalies are like the side-effects of medicine. It’s become kind of poor public manners to point out that ‘side-effects’ are actually just ‘direct effects’ that we’d rather you not pay attention to. They are endemic, but somehow they no longer seem to challenge the overarching paradigm. Ross ended by saying that while there’s a lot neo-classical finance doesn’t know, it really doesn’t need psychology or anyone else to figure out what’s left. It’s got the tools and the general gist, thank you very much.