After reading "Principles" by Ray Dalio and how Bridgewater uses a "system" for decision making that incorporates lots of parameters and all kinds of econometric models and artificial intelligence, I started to wonder how realistic such a system is. As somebody who has being trading for the past 4 years, I tend to stay away from complicated models due to a fear of overfitting. Additionally, I like Locke's definition of a madman as someone "reasoning correctly from erroneous premises". Every hyperparamter in your model has the potential to create an erroneous premise. So how could any conclusion from a complicated/blackbox model be trusted to make investment decisions?
From the mathematical point of view, the ability to model the world correctly also sounds impossible, if one agrees with the Chaos Theory:
Chaos: When the present determines the future, but the approximate present does not approximately determine the future.
— Edward Lorenz.
I always wondered the probability of how much the successes of all those hedge funds and their portfolios that are produced by some "magical" "big data" + "complicated AI" is simply due to market manipulation by big firms buying and holding large amounts of certain assets. Could their success be simply be explained by being "lucky" few times, giving them enough publicity, thus attracting more capital which allows them to have more impact to the supply/demand side of things, making them even more "correct", attracting even more capital and then the positive feedback loop continues? Afterwards it just all gets attributed to this "marvelous system" that they have (which I am sure they believe in themselves too).
Maybe I made a mistake by reading "Fooled by Randomness" by Nassim Taleb and then reading "Principles", so now I am simply projecting…
Anyways, so I was wondering if anyone else had any thoughts on how believable are all those claims by hedge funds that they have some magical crystal ball that lets them see into the future and how much of it is simply market manipulation by "elect" (as voting by putting money) few who simply got lucky initially and attracted enough capital to be in the position?
Submitted November 12, 2020 at 07:15AM by PigException