Markets Don’t Lie

Yesterday I had a conversation with someone that really understands the markets.  When you find a person that viscerally understands markets, it’s fun.  That was one thing about where I worked, we had more than a few people that could talk about markets in an academic and theoretical way.  They could apply that knowledge in other places.

Leo Melamed was one person I could always engage in to talk about markets.  On his web page, he talks about them.  Read some of his speeches. There were plenty of other people I met over the years that were conversant in markets as well.  When I was on the board of CME, I used to have lunch with Professor Milton Miller and just listen to him talk about markets.  Fascinating.

Markets allocate resources better than anything.  There are too many examples to count, but the book Who Gets What and Why is a great primer.  It’s not just in finance. It’s in everything.  The book shows how a free market system can allocate education.  Why?  People have preferences.

When a market becomes more efficient, it creates massive economies of scale and scope.  The network effects get big.  There are plenty of examples of this. One that comes to mind is the introduction of Treasury Bond futures in 1977.  Prior to that, the bond market was sort of private.  It was the domain of big banks and specialized institutions.  A closed room.  The bid/ask spreads were kept very very wide for everyone.  Anyone on the inside made a lot of money.  Trading was like shooting fish in a barrel.  The day after futures were introduced, The spread went from 16/32 to 1/32.  In dollar terms, that’s a $500 spread to a $31.25 spread.

New players emerged and the market got bigger.  New side markets emerged.  People were able to access the market easier, and they were able to get out of the market easier.  That second point is crucial.  A really nice side effect was it cost the United States Treasury significantly less to finance the national debt.  Can you imagine what financing it would cost without a liquid bond market?  Whew.

Liquid markets always tell the truth.  Their prices adjust with each new kernel of incoming information.  For example, whether you like Trump or hate Trump, the market is telling you something about what’s happening as I type this blog out.  Currently, the S&P futures are off their lows, down about 10 or 11 points.  That is most certainly not an “impeachment market”.  It’s also not telling you that everything is okay.  By the way, if you trade them and see that Gartman and Slope of Hope get bearish at the same time, it’s a buying signal.

To interpret markets, it’s really important that you check your confirmation bias. That’s where markets get hard.  We project our own biases into the analysis.

There are so many things in our world that could be made more efficient by the introduction of liquid, transparent markets.  If you look around the economy, there is so much dead weight loss it’s frustrating.  I think that bringing market-based transparency to all kinds of things we weren’t able to bring it to before is one of the big promises of cryptocurrency and blockchain.

(date on start of T-Bonds was updated to correct date, sorry for the mistake)