The Misbehavior of Markets: A Fractal View of Risk, Ruin, and Reward

by Benoît B. Mandelbrot, Richard Hudson, Richard L. Hudson

Book Overview

A groundbreaking mathematician presents a new model for understanding financial markets Benoit B. Mandelbrot is world-famous for inventing fractal geometry, making mathematical sense of a fact... This description may be from another edition of this product.

• Format: Hardcover
• Language: English
• ISBN: 0465043550
• ISBN13: 9780465043552
• Release Date: August 2004
• Publisher: Basic Books
• Length: 352 Pages
• Weight: 1.45 lbs.
• Dimensions: 1.2" x 15.0" x 9.5"

Customer Reviews

A book of questions, not answers!

If you only buy books in the series "For when you only have time for answers", then this book is not for you. Mandelbrot's book gives you strong hints about a possible financial model of the markets, but doesn't claim anything beyond providing you with an intellectual framework to start attacking the problem from an entirely different perspective to the "Efficient Markets" or the "Black-Sholes" current theology. If you feel stuck in your current market practice, or find that what you do every day doesn't reconcile with the current theory, then this book might be a first attempt at reconciling your daily exerience with a strong theoretical model. If your current practice is that you do it "because it works" but you feel uncomfortable with doing things for which you have no rational explanation, then Mandelbrot's book will set you on a path of deeper understanding. By the end of the book, you still won't know the answer, but you will have learnt a tremendous amount on the way actual price series might work. Definitely not for casual reading.

The ONLY book

I have been involved in the professional practice of uncertainty for almost all of my adult life. I've seen and read books and papers on the subject of deviations, with "this is interesting" here and there. I closed this book feeling that it was the first book in economics that spoke directly to me. Not only that, but this astonishing simplicity, realism, and relevance of the subject makes it the only work in finance I've read that seemed to make sense. I cannot make justice to the book other than say 1) MAKES SENSE, 2) EASY TO UNDERSTAND, 3) PRESENT SUCH EMPIRICAL VALIDY that it will make financial economists (charlatans) have to hide deeper from the common man with their complicated "mathematics". Mandelbrot brought fractals into mathematics by going to the general public. He is doing the same here: pleading to the regular man unburnded with knowledge of economics. These comments are extracted from a longer book review I wrote on the MisBehavior of Markets.

Economic (Financial) theories that assume a N(0,1)are wrong.

This is another in a series of books written by Benoit Mandelbrot that deserves to have a 6 star rating.The current foundation of practically all financial analyses ,excepting the "safety-first"approach of Roy and Charnes and Cooper,is the mean-variance(standard deviation)approach which is incorporated into more advanced versions such as the capital asset pricing model(capm)and the Black-Scholes options pricing model for puts and calls.All of these models assume that all price movements in all financial markets are approximately the same small size,are independent of each other,are homogeneous and satisfy the law of large numbers and the central limit theorem.This leads directly to the assumption that all price movements can be modeled as(as if)being normally distributed.The reader should note that practically all classical and neoclassical economic theory is currently based on subjective expected utility(SEU)theory which bases much of its practical results on the applicability of the normal probability distribution.The entire argument made by Milton Friedman and Robert Lucas,jr.,that all false trading(contracting)at disequilibrium(nonequilibrium)prices cancels out in the long run over time ,is based on the claim that such price movements are normally distributed around the market clearing equilibrium price.This equilibrium market clearing price is automatically interpreted as being the mean of a normal probability distributiion.Such a price is thus an optimal price since the average of a normal probability distribution is also the maximum outcome possible.The entire claim that price adjustments lead to an optimal outcome in all(private sector) markets means that the socalled"INVISIBLE HAND"of the market is nothing more than a normal probability distribution.Any type of skewed and/or nonnormal distribution of price movements means automatically that such adjustments do not lead to an optimal outcome.Mandelbrot has thrown down the gauntlet,not only to the current purveyors of basic risk management,portfolio analysis,but to much of the economics profession as well.Mandelbrot does this by simply presenting massive amounts of empirical evidence showing that the commodity,futures,money,stock,and other markets price movements are not generally normally distributed.All of Mandelbrot's research has been replicated and duplicated by many other researchers in many other countries besides the USA.Since the mid-fifties,Mandelbrot has carefully and patiently presented his results in a series of widely cited scholarly articles and books.In this book,Mandelbrot has decided to take his case directly to the general public.The book is straightforward and easy to read and absorb.The only technical knowledge needed by a reader is some basic familiarity with the normal distribution and an understanding of the basics of calculating a Z-score.I can't recommend this book too highly.

A Fresh Look at Financial Orthodoxy

This book details one of this generation's finest mathematical minds offers "obvious" observations he calls his "Ten Heresies of Finance." Benoit Mandelbrot is known for making mathematical sense of facts everybody accepts but that geometers never assimilated. Clouds are not round. Mountains are not cones. Coastlines are not smooth. Add another: financial markets are not the safe bet your broker claims. In his first general audience book, Mandelbrot, with co-author Richard L. Hudson, reveal today's assumptions about the behavior of markets simply do not work. "What passes for orthodoxy in economics and finance," the authors conclude, "proves on closer examination to be shaky business." Among the book's observations: 1. Markets are turbulent. After spending a lifetime studying wind and ocean currents, he applies his multi-fractal math to analyze financial markets. "The tell-tale traces of turbulence are plainly there, in the price charts," he writes. The bell curve does not capture its changes. 2. Markets are inherently risky. Turbulence is dangerous. Market swings are wild and sudden. They are difficult to predict, more difficult to hedge and even more difficult from which to profit. 3. Marketing timing matters. Big gains and losses are concentrated into small time periods. News events such as earnings or economic announcements drive stock market prices. 4. Prices leap suddenly. This adds to risk. News announcements compel investors to act simultaneously and instantaneously. Using his fractal tools, Mandelbrot describes how financial markets work. He describes the volatile, dangerous and in a unique way, strangely beautiful properties that for which few financial experts account. This book is a must read for any serious investor. By pin-pointing flaws in accepted market wisdom, it provides a platform for a serious re-consideration of finance.

Worth reading if you manage money professionally.

Mind expanding book. If you manage money for a living you probably already know that academic finance is plagued with shortcomings. The most skilled money managers in the world earn hundreds of millions dollars a year. If anybody could learn to manage money going to school we wouldn't observe those compensation levels. Mandelbrot points out correctly that the standard mathematical tools are insufficient to manage financial risks. Consistently outperforming money managers know this and either design patches or use proprietary tools. Mandelbrot proposes his own mathematical framework as an alternative to mainstream finance. I won't tell how good it is. It is responsability of the reader to check if these tools work. There are supposedly successful hedge funds using this math (e.g. Olsen) but the smart reader will not believe anything until he verifies it through his own research. While I recommend this book to anyone managing money, I don't believe Mandelbrot's ideas will be widely accepted in academia. In any case being a finance researcher has a curse. In the markets, if someone outperforms the indices someone else has to underperform. Not everybody can outperform. Therefore if your ideas are accepted and everybody uses your stuff then obviously it won't generate outsized returns and you won't be in the billionaire money manager club. Your only hope to see a million dollars in your lifetime will be the Nobel Prize. If you choose instead to make money with your stuff and keep it to yourself, you will be anonymous and lonely but stinking rich. Therefore the only drawback I see is that Mandelbrot does not ask himself what would happen with his model if everybody adopts it. Can it change the way prices move? Financial advances change the markets and due to the curse I mentioned, they tend to nullify themselves: remember portfolio insurance, convertible pricing models etc. etc. Mainstream finance (indexing in particular) "works" because it basically says "it's OK to be average, just mimic the indices". So its wide acceptance does not nullify itself. I reach the conclusion that only a select few can take advantage of Mandelbrot's thinking. One thing is for sure: if anybody finds a way to make money with Mandelbrot's stuff he won't tell anyone about it.